UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM N-CSR
CERTIFIED SHAREHOLDER REPORT OF REGISTERED MANAGEMENT
INVESTMENT COMPANIES
Investment Company Act file number 811-21842
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First Trust Strategic High Income Fund II
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(Exact name of registrant as specified in charter)
120 East Liberty Drive, Suite 400
Wheaton, IL 60187
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(Address of principal executive offices) (Zip code)
W. Scott Jardine, Esq.
First Trust Portfolios L.P.
120 East Liberty Drive, Suite 400
Wheaton, IL 60187
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(Name and address of agent for service)
registrant's telephone number, including area code: 630-765-8000
Date of fiscal year end: October 31
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Date of reporting period: October 31, 2014
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Form N-CSR is to be used by management investment companies to file reports with
the Commission not later than 10 days after the transmission to stockholders of
any report that is required to be transmitted to stockholders under Rule 30e-1
under the Investment Company Act of 1940 (17 CFR 270.30e-1). The Commission may
use the information provided on Form N-CSR in its regulatory, disclosure review,
inspection, and policymaking roles.
A registrant is required to disclose the information specified by Form N-CSR,
and the Commission will make this information public. A registrant is not
required to respond to the collection of information contained in Form N-CSR
unless the Form displays a currently valid Office of Management and Budget
("OMB") control number. Please direct comments concerning the accuracy of the
information collection burden estimate and any suggestions for reducing the
burden to Secretary, Securities and Exchange Commission, 100 F Street, NE,
Washington, DC 20549. The OMB has reviewed this collection of information under
the clearance requirements of 44 U.S.C. ss. 3507.
ITEM 1. REPORTS TO STOCKHOLDERS.
The Report to Shareholders is attached herewith.
FIRST TRUST
STRATEGIC
HIGH INCOME
FUND II (FHY)
ANNUAL REPORT
FOR THE YEAR ENDED
OCTOBER 31, 2014
FIRST TRUST BROOKFIELD
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TABLE OF CONTENTS
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
ANNUAL REPORT
OCTOBER 31, 2014
Shareholder Letter ......................................................... 1
At a Glance ................................................................ 2
Portfolio Commentary ....................................................... 3
Portfolio of Investments ................................................... 6
Statement of Assets and Liabilities ........................................ 15
Statement of Operations .................................................... 16
Statements of Changes in Net Assets ........................................ 17
Statement of Cash Flows .................................................... 18
Financial Highlights ....................................................... 19
Notes to Financial Statements .............................................. 20
Report of Independent Registered Public Accounting Firm .................... 27
Additional Information ..................................................... 28
Board of Trustees and Officers ............................................. 34
Privacy Policy ............................................................. 36
CAUTION REGARDING FORWARD-LOOKING STATEMENTS
This report contains certain forward-looking statements within the meaning of
the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934,
as amended. Forward-looking statements include statements regarding the goals,
beliefs, plans or current expectations of First Trust Advisors L.P. ("First
Trust" or the "Advisor") and/or Brookfield Investment Management Inc.
("Brookfield" or the "Sub-Advisor") and their respective representatives, taking
into account the information currently available to them. Forward-looking
statements include all statements that do not relate solely to current or
historical fact. For example, forward-looking statements include the use of
words such as "anticipate," "estimate," "intend," "expect," "believe," "plan,"
"may," "should," "would" or other words that convey uncertainty of future events
or outcomes.
Forward-looking statements involve known and unknown risks, uncertainties and
other factors that may cause the actual results, performance or achievements of
First Trust Strategic High Income Fund II (the "Fund") to be materially
different from any future results, performance or achievements expressed or
implied by the forward-looking statements. When evaluating the information
included in this report, you are cautioned not to place undue reliance on these
forward-looking statements, which reflect the judgment of the Advisor and/or
Sub-Advisor and their respective representatives only as of the date hereof. We
undertake no obligation to publicly revise or update these forward-looking
statements to reflect events and circumstances that arise after the date hereof.
PERFORMANCE AND RISK DISCLOSURE
There is no assurance that the Fund will achieve its investment objectives. The
Fund is subject to market risk, which is the possibility that the market values
of securities owned by the Fund will decline and that the value of the Fund
shares may therefore be less than what you paid for them. Accordingly, you can
lose money by investing in the Fund. See "Risk Considerations" in the Additional
Information section of this report for a discussion of certain other risks of
investing in the Fund.
Performance data quoted represents past performance, which is no guarantee of
future results, and current performance may be lower or higher than the figures
shown. For the most recent month-end performance figures, please visit
http://www.ftportfolios.com or speak with your financial advisor. Investment
returns, net asset value and common share price will fluctuate and Fund shares,
when sold, may be worth more or less than their original cost.
HOW TO READ THIS REPORT
This report contains information that may help you evaluate your investment. It
includes details about the Fund and presents data and analysis that provide
insight into the Fund's performance and investment approach.
By reading the portfolio commentary by the portfolio management team of the
Fund, you may obtain an understanding of how the market environment affected the
Fund's performance. The statistical information that follows may help you
understand the Fund's performance compared to that of relevant market
benchmarks.
It is important to keep in mind that the opinions expressed by personnel of
Brookfield are just that: informed opinions. They should not be considered to be
promises or advice. The opinions, like the statistics, cover the period through
the date on the cover of this report. The risks of investing in the Fund are
spelled out in the prospectus, the statement of additional information, this
report and other Fund regulatory filings.
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SHAREHOLDER LETTER
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
ANNUAL LETTER FROM THE CHAIRMAN AND CEO
OCTOBER 31, 2014
Dear Shareholders:
I am pleased to present you with the annual report for your investment in First
Trust Strategic High Income Fund II (the "Fund"). This report provides detailed
information about the Fund, including a performance review and the financial
statements for the past 12 months. I encourage you to read this document and
discuss it with your financial advisor.
Although markets have seemed choppy over the past 12 months, the U.S. has shown
sustained growth over the period. In fact, the S&P 500(R) Index, as measured on
a total return basis, rose 17.27% during the period. First Trust Advisors L.P.
("First Trust") believes that staying invested in quality products through
different types of markets can benefit investors over the long term.
First Trust offers a variety of products that we believe could fit the financial
plans for many investors seeking long-term investment success. We invite you to
look at our investment products with your financial advisor to determine if any
of them might fit your financial goals. We believe that regularly discussing
your financial objectives and investment options with your financial advisor can
help keep you on track.
First Trust will continue to make available up-to-date information about your
investments so you and your financial advisor are current on any First Trust
investments you own. We value our relationship with you, and thank you for the
opportunity to assist you in achieving your financial goals.
Sincerely,
/s/ James A. Bowen
James A. Bowen
Chairman of the Board of Trustees
Chief Executive Officer of First Trust Advisors L.P.
Page 1
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
"AT A GLANCE"
AS OF OCTOBER 31, 2014 (UNAUDITED)
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FUND STATISTICS
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Symbol on New York Stock Exchange FHY
Common Share Price $15.60
Common Share Net Asset Value ("NAV") $16.64
Premium (Discount) to NAV (6.25)%
Net Assets Applicable to Common Shares $140,736,869
Current Monthly Distribution per Common Share (1) $0.12
Current Annualized Distribution per Common Share $1.44
Current Distribution Rate on Closing Common Share Price (2) 9.23%
Current Distribution Rate on NAV (2) 8.65%
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COMMON SHARE PRICE & NAV (WEEKLY CLOSING PRICE)
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Common Share Price NAV
10/13 15.97 17.52
15.78 17.42
15.65 17.41
15.87 17.43
15.70 17.46
11/13 15.82 17.50
15.59 17.41
15.54 17.43
15.62 17.45
12/13 15.81 17.48
15.70 17.43
15.81 17.53
15.83 17.60
15.95 17.57
1/14 15.54 17.09
15.45 17.00
15.62 17.14
15.75 17.23
2/14 15.98 17.37
15.73 17.25
15.80 17.23
15.88 17.25
3/14 15.88 17.30
15.90 17.26
15.84 17.26
15.93 17.30
4/14 16.03 17.32
16.03 17.28
16.07 17.35
16.15 17.39
16.14 17.39
5/14 16.25 17.40
16.11 17.38
16.22 17.41
16.31 17.50
6/14 16.34 17.49
16.07 17.39
16.14 17.35
15.96 17.25
7/14 16.01 17.26
15.56 16.94
15.50 17.00
15.65 17.18
15.72 17.27
8/14 15.77 17.28
15.60 17.08
15.38 16.94
15.54 16.96
9/14 15.38 16.68
15.25 16.64
15.20 16.42
15.10 16.50
15.47 16.65
10/14 15.60 16.64
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PERFORMANCE
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Average Annual Total Return
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1 Year Ended 5 Years Ended Inception (3/28/2006)
10/31/2014 10/31/2014 to 10/31/2014
FUND PERFORMANCE (3)
NAV 4.03% 13.70% -1.97%
Market Value 6.99% 13.98% -3.23%
INDEX PERFORMANCE
Barclays Capital Ba U.S. High Yield Index 7.18% 10.19% 8.85%
BofA Merrill Lynch U.S. High Yield
Master II Index 5.85% 10.26% 8.47%
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% OF TOTAL
ASSET CLASSIFICATION INVESTMENTS
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Corporate Bonds and Notes 71.4%
Foreign Corporate Bonds and Notes 13.9
Residential Mortgage-Backed Securities 5.7
Manufactured Housing Loans 3.8
Senior Floating-Rate Loan Interests 1.9
Equity 1.9
Commercial Mortgage-Backed Securities 1.2
Collateralized Debt Obligations 0.0*
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Total 100.0%
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* Amount is less than 0.1%
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% OF TOTAL
FIXED-INCOME
CREDIT QUALITY (4) INVESTMENTS
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AAA 0.5%
AA- 0.6
BBB- 3.0
BB+ 5.5
BB 15.6
BB- 11.3
B+ 8.6
B 17.4
B- 15.1
CCC+ 10.2
CCC 3.5
CCC- 1.7
CC 1.9
C 1.1
D 0.8
NR 3.2
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Total 100.0%
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(1) Most recent distribution paid or declared through 10/31/2014. Subject to
change in the future.
(2) Distribution rates are calculated by annualizing the most recent
distribution paid or declared through the report date and then dividing by
Common Share price or NAV, as applicable, as of 10/31/2014. Subject to
change in the future.
(3) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan and changes in NAV per share for NAV
returns and changes in Common Share price for market value returns. Total
returns do not reflect sales load and are not annualized for periods less
than one year. Past performance is not indicative of future results.
(4) The credit quality and ratings information presented above reflects the
ratings assigned by one or more nationally recognized statistical rating
organizations (NRSROs), including Standard & Poor's Ratings Group, a
division of the McGraw Hill Companies, Inc., Moody's Investors Service,
Inc., Fitch Ratings or a comparably rated NRSRO. For situations in which a
security is rated by more than one NRSRO and the ratings are not
equivalent, the highest ratings are used. Sub-investment grade ratings are
those rated BB+/Ba1 or lower. Investment grade ratings are those rated
BBB-/Baa3 or higher. The credit ratings shown related to the
creditworthiness of the issuers of the underlying securities in the Fund,
and not to the Fund or its shares. Credit ratings are subject to change.
NR Not rated.
Page 2
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PORTFOLIO COMMENTARY
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
ANNUAL REPORT
OCTOBER 31, 2014
SUB-ADVISOR
BROOKFIELD INVESTMENT MANAGEMENT INC.
Brookfield Investment Management Inc. ("Brookfield" or the "Sub-Advisor") serves
as the Fund's sub-advisor. Brookfield is a wholly-owned subsidiary of Brookfield
Asset Management, a global alternative asset manager with approximately $200
billion in assets under management as of September 30, 2014. Brookfield Asset
Management has over a 100-year history of owning and operating assets with a
focus on property, renewable power, infrastructure and private equity. The
company offers a range of public and private investment products and services,
which leverage its expertise and experience and provide it with a competitive
advantage in the markets where it operates. On behalf of its clients, Brookfield
Asset Management is also an active investor in the public securities markets,
where its experience extends over 30 years. Over this time, the company has
successfully developed several investment operations and built expertise in the
management of institutional portfolios, retail mutual funds and various
commingled vehicles.
Brookfield Asset Management's public market activities are conducted by
Brookfield, a registered investment advisor. These activities complement
Brookfield Asset Management's core competencies and include global listed real
estate and infrastructure equities, corporate credit and securitized credit
strategies. Headquartered in New York, NY, Brookfield Investment Management
maintains offices and investment teams in Toronto, Chicago, Boston and London
and had over $17 billion of assets under management as of September 30, 2014.
PORTFOLIO MANAGEMENT TEAM
DANA E. ERIKSON, CFA, MANAGING DIRECTOR
ANTHONY BREAKS, CFA, SENIOR DIRECTOR
COMMENTARY
FIRST TRUST STRATEGIC HIGH INCOME FUND II
The primary investment objective of the First Trust Strategic High Income Fund
II (the "Fund") is to seek a high level of current income. The Fund seeks
capital growth as a secondary objective. The Fund seeks to achieve its
investment objectives by investing in a diversified portfolio of below
investment-grade and investment-grade debt securities and equity securities that
the Sub-Advisor believes offer attractive yield and/or capital appreciation
potential. There can be no assurance that the Fund will achieve its investment
objectives. The Fund may not be appropriate for all investors.
MARKET RECAP AND OUTLOOK
High Yield
TAPERING AND INTERNATIONAL EVENTS FUEL MARKETS
The 12-month period ended October 31, 2014 was characterized by worldwide
central bank moves and global geopolitical turmoil. At the beginning of the
period, the Federal Reserve finally announced the start of the long-awaited
tapering of its bond-buying program. The markets reacted and pushed interest
rates above 3% on the combination of the tapering news and stronger year-end
economic growth in North America. While most investors expected interest rates
to rise even further, the bond market surprised everyone and moved interest
rates sharply lower over the next 10 months, ending at 2.34% as of October 31,
2014.
As the 2014 calendar year began, international events influenced markets as
investors grew particularly concerned about emerging market declines. Russian
troops entered Crimea, and once again China's growth prospects came into
question. Investors were later unnerved when Russian troops supported
anti-government rebels in the Ukraine and the radical group Islamic State made
territorial gains in Iraq and Syria. The spread of the Ebola virus in Western
Africa concerned investors as well.
Risk markets corrected sharply in September but confidence returned when the
Japanese Central Bank announced a bond buying program to counteract slow growth
in that country, and some expected the European Central Bank to follow suit in
the wake of weak numbers out of Europe, especially Germany.
HIGH YIELD UNDERPERFORMS
The high-yield market produced a positive return of 5.85% for the 12-month
period ended October 31, 2014, as measured by the BofA Merrill Lynch U.S. High
Yield Master II Index. The asset class benefited from strong fundamentals, and
lower interest rates, offset by fund redemptions triggered by investors' macro
concerns. For the 12-month period, higher-quality BB bonds outperformed riskier
Page 3
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PORTFOLIO COMMENTARY (CONTINUED)
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CCC bonds. By industry, the market saw outperformance in utilities, banking, and
transportation, which were up 11.5%, 9.9%, and 9.5%, respectively(1).
Underperforming sectors included energy, services, and basic industries, which
rose 3.0%, 3.7%, and 3.9%, respectively.(1)
CREDIT CONDITIONS
The fiscal year ended October 31, 2014 saw an increase in the high-yield default
rate, bringing the 12-month default rate to 1.9%, which remains well below the
long-term average of 3.9%.1 We believe defaults will remain low for the
foreseeable future. One of the defining characteristics of the credit cycle,
which has been in place since 2009, has been the long-term, consistent
improvement in credit as measured by the credit rating agencies' "upgrade to
downgrade ratio," which ended the period at 1.35x, meaning that the rating
agencies are upgrading 1.35 times as many companies as they are downgrading.
OUTLOOK
The current credit cycle has now lasted six years. It has been characterized by
modest economic growth punctuated by repeated geopolitical, economic, and
financial market scares. Typically, by this point in the cycle, lower-rated
companies are aggressively re-leveraging their balance sheets in order to
multiply lackluster equity returns. Typically, investors would expect to see
heavy mergers and acquisitions activity and leveraged buyout issuance. While we
have seen some increasing trends in these areas, we continue to see responsible
behavior on the part of corporate treasurers in managing balance sheet risk. We
believe this is a direct result of slow economic growth and geopolitical
concerns, which has resulted in a credit cycle already exceeding the prior cycle
in length.
The market correction in the third quarter has restored substantial value to the
high-yield bond market, with the spread moving to 420 basis points over U.S.
Treasuries.(2) The correction has also restored some upside potential to the
high-yield market by removing a portion of the embedded price premium. There can
be little question that the high-yield market may have difficulty advancing when
the Federal Reserve drains the system of liquidity; however, we believe that
modest and erratic growth and elevated geopolitical risk has tied the Federal
Reserve's hands at least for the near future. Consequently, we believe
high-yield investors may continue to enjoy coupon-clipping returns for the
foreseeable future barring a "risk-off" move on the part of global investors,
which we do not expect.
SECURITIZED PRODUCTS
Within the Securitized Products universe, Agency Residential Mortgage-Backed
Securities ("RMBS"), non-Agency RMBS and Commercial Mortgage-Backed Securities
("CMBS") all had strong returns for the fiscal year ended October 31, 2014,
driven by improving collateral performance and strong investor demand.
Away from Agency RMBS issuance, we are seeing little supply from dealer conduits
and real estate investment trusts, historically a source of non-Agency
mortgages. The Government Sponsored Enterprises ("GSEs") have turned into a
material source of new issue mortgage credit through the issuance of
risk-sharing securities. These securities convey a slice of risk from the GSEs
guarantee portfolio. Issuance of these securities has picked up and the Federal
Housing Finance Agency ("FHFA") director signaled an interest in tripling the
pace of issuance. In the Fund's fiscal year, Fannie Mae and Freddie Mac issued a
combined $8.9 billion, still small in the context of non-Agency RMBS issuance
historically, but notable given overall low levels of supply. CMBS issuance has
slowed a bit with $60 billion in new unguaranteed deals and $53 billion in
Agency-guaranteed CMBS for the period.
Within commercial real estate, top-tier properties in major markets continue to
improve and indeed prices now exceed peak levels from 2007. Secondary and
tertiary markets continue to recover and the pace of recovery has increased
since the middle of 2013. The availability of commercial mortgage credit has
greatly improved, and the deal making has now broadened beyond major markets.
Oversupply has not been an issue in this real estate cycle, as new construction
virtually came to a halt during the financial crisis in 2008 and 2009 and, with
the exception of the multifamily sector, remains low. The relative lack of new
construction should also assist further recovery in values as demand for space
returns and the lead times required to deliver new space keeps supply in check.
One area that continues to struggle is retail. Department store sales continue
to decline and the malls they anchor have struggled in certain markets. We see
no reason to see the trend reversing and choose to avoid CMBS with a larger
exposure to these weak retail properties.
We remain positive on most securitized products for the next year, based on
continued improvement in forecasts for collateral performance. Expansion of
credit for borrowers has slowed versus market expectations and this remains an
area of potential improvement for the Fund's markets. Banks have been slow to
expand borrowing beyond agency eligible loans and non-agency eligible loans to
otherwise very clean, typically high net worth borrowers. Putback risk for banks
has been somewhat reduced through actions of the FHFA, but banks remain very
cautious in their underwriting of even Agency eligible loans. That said, home
prices continue to increase and rates remain low. As a result, we believe more
borrowers should be able to
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1 J.P. Morgan, High Yield Market Monitor, November 1, 2014, page 3.
2 Merrill Lynch, Bloomberg.
Page 4
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PORTFOLIO COMMENTARY (CONTINUED)
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refinance their mortgage, and homes which are for sale should attract a broader
audience of buyers. Rents have been rising for several years, and with interest
rates still low, many households have a financial incentive to purchase rather
than rent. All of these dynamics support the current increase in home prices and
potential for further increases, in our opinion.
PERFORMANCE ANALYSIS
For the one-year period ended October 31, 2014, the Fund had a total return(3)
of 4.03% based on net asset value ("NAV"). For the period, the Fund traded from
a discount to NAV of -8.85% to a discount of -6.25%, resulting in a total return
of 6.99%, based on market price.
The total return for the Fund's benchmark, the Barclays Capital Ba U.S. High
Yield Index, was 7.18% for the one-year period ended October 31, 2014. While the
benchmark contains mostly corporate debt, it is important to note that the Fund
maintained exposure to structured finance and mortgage-related securities during
the period.
An important factor impacting the return of the Fund relative to its benchmark
was the Fund's use of financial leverage through the use of bank borrowings. As
of October 31, 2014, the Fund's leverage was approximately 29.48% of Managed
Assets. Leverage contributed positively to the Fund's performance during the
period. The Fund may utilize leverage in an amount up to 33.33% of Managed
Assets. The Fund uses leverage because its managers believe that, over time,
leverage provides opportunities for additional income and capital growth for
common shareholders. However, the use of leverage also can expose common
shareholders to additional volatility. For example, as the prices of securities
held by the Fund decline, the negative impact of the valuation changes on common
share net asset value and common shareholder total return is magnified by the
use of leverage. Conversely, leverage may enhance common share returns during
periods when the prices of securities held by the Fund are rising generally.
Contributors to relative performance over the reporting period included the
Fund's allocation to the services sector where positive security selection in
the Fund's gaming holdings added return. The Fund was also overweight in the
telecommunications sector and saw positive security selection in
telecommunications bonds, which also added to performance. The Fund's investment
in the consumer cyclical sector also contributed to performance due, in part, to
positive security selection in food and drug retail bonds.
Detractors from performance included the Fund's overweight in the basic industry
sector, where the Fund's holdings of bonds in the coal sector underperformed.
Additionally, lack of exposure to the banking sector detracted from performance.
The Fund also saw underperformance from its credit weighting, due to an
underweight position in the outperforming BB sector, and an overweight in the
underperforming CCC sector. Finally, the Fund was more conservatively positioned
in terms of duration in order to protect against higher interest rates, and this
worked against performance in the period since interest rates moved lower, not
higher.
The Fund's portfolio holdings are subject to change without notice. The mention
of specific securities is not a recommendation or solicitation for any person to
buy, sell or hold any particular security. There is no assurance that the Fund
currently holds these securities. These views represent the opinions of
Brookfield Investment Management Inc. and are not intended to predict or depict
the performance of any investment. These views are as of the close of business
on October 31, 2014 and subject to change based on subsequent developments.
-----------------------------
3 Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan and changes in NAV per share for NAV
returns and changes in Common Share price for market value returns and
does not reflect sales load. Past performance is not indicative of future
results.
Page 5
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS
OCTOBER 31, 2014
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES - 98.7%
AUTOMOTIVE - 4.4%
$ 1,275,000 American Axle & Manufacturing, Inc. (a)....... 6.25% 03/15/21 $ 1,345,125
1,050,000 American Axle & Manufacturing, Inc. (a)....... 6.63% 10/15/22 1,126,125
1,750,000 Chrysler Group LLC/Chrysler Group Co-Issuer,
Inc. (a)................................... 8.25% 06/15/21 1,964,375
1,500,000 Ford Motor Co. (a)............................ 6.50% 08/01/18 1,737,847
------------
6,173,472
------------
BASIC INDUSTRY - 12.8%
800,000 Alpha Natural Resources, Inc. (a) (b)......... 7.50% 08/01/20 642,000
2,075,000 Alpha Natural Resources, Inc. (a)............. 6.25% 06/01/21 996,000
3,275,000 Arch Coal, Inc. (a)........................... 7.25% 06/15/21 1,228,125
1,750,000 Associated Materials LLC/AMH New Finance,
Inc. (a)................................... 9.13% 11/01/17 1,717,187
500,000 Building Materials Corp. of America (b)....... 6.75% 05/01/21 537,500
2,450,000 Hexion US Finance Corp. (a)................... 9.00% 11/15/20 2,272,375
1,100,000 Huntsman International LLC (a)................ 8.63% 03/15/21 1,204,500
500,000 Ply Gem Industries, Inc....................... 6.50% 02/01/22 493,750
1,540,000 Polymer Group, Inc. (a)....................... 7.75% 02/01/19 1,609,300
2,100,000 Pulte Group, Inc. (a)......................... 6.38% 05/15/33 2,115,750
1,000,000 Steel Dynamics, Inc. (a)...................... 7.63% 03/15/20 1,060,000
2,100,000 USG Corp. (a) (c)............................. 9.75% 01/15/18 2,430,750
1,650,000 Xerium Technologies, Inc. (a)................. 8.88% 06/15/18 1,743,843
------------
18,051,080
------------
CAPITAL GOODS - 4.4%
1,700,000 Crown Cork & Seal Co., Inc. (a)............... 7.38% 12/15/26 1,887,000
1,565,000 Mueller Water Products, Inc. (a).............. 7.38% 06/01/17 1,596,300
590,000 Tekni-Plex, Inc. (b).......................... 9.75% 06/01/19 647,525
650,000 Terex Corp.................................... 6.50% 04/01/20 687,375
1,350,000 Terex Corp. (a)............................... 6.00% 05/15/21 1,410,750
------------
6,228,950
------------
CONSUMER GOODS - 3.8%
1,800,000 New Albertsons, Inc. (a)...................... 7.75% 06/15/26 1,710,000
1,850,000 Post Holdings, Inc. (a)....................... 7.38% 02/15/22 1,900,875
1,900,000 Roundy's Supermarkets, Inc. (a) (b)........... 10.25% 12/15/20 1,729,000
------------
5,339,875
------------
ENERGY - 18.5%
2,100,000 Atlas Pipeline Partners LP/Atlas Pipeline
Finance Corp. (a).......................... 5.88% 08/01/23 2,189,250
1,750,000 Breitburn Energy Partners LP/Breitburn
Finance Corp. (a).......................... 8.63% 10/15/20 1,793,750
250,000 Breitburn Energy Partners LP/Breitburn
Finance Corp............................... 7.88% 04/15/22 241,094
1,925,000 Calfrac Holdings LP (a) (b)................... 7.50% 12/01/20 1,973,125
2,410,000 EV Energy Partners LP/EV Energy Finance
Corp. (a).................................. 8.00% 04/15/19 2,385,900
1,850,000 Ferrellgas Partners LP/Ferrellgas Partners
Finance Corp. (a).......................... 8.63% 06/15/20 1,933,250
Page 6 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES (CONTINUED)
ENERGY (CONTINUED)
$ 1,950,000 Global Partners LP/GLP Finance Corp. (b)...... 6.25% 07/15/22 $ 1,940,250
816,163 GMX Resources, Inc. (d) (e)................... 11.00% 12/01/17 709,042
1,700,000 Hilcorp Energy I LP/Hilcorp Finance
Co. (a) (b)................................ 8.00% 02/15/20 1,793,500
1,000,000 ION Geophysical Corp.......................... 8.13% 05/15/18 945,000
1,750,000 Key Energy Services, Inc. (a)................. 6.75% 03/01/21 1,566,250
950,000 Linn Energy LLC/Linn Energy Finance
Corp. (a).................................. 8.63% 04/15/20 957,125
800,000 Linn Energy LLC/Linn Energy Finance Corp...... 7.75% 02/01/21 788,000
1,275,000 Pioneer Natural Resources Co. (a)............. 6.65% 03/15/17 1,413,416
1,300,000 RKI Exploration & Production LLC/RKI
Finance Corp. (b).......................... 8.50% 08/01/21 1,277,250
1,850,000 Tesoro Logistics L.P./Tesoro Logistics
Finance Corp............................... 6.13% 10/15/21 1,910,125
2,100,000 Venoco, Inc. (a).............................. 8.88% 02/15/19 1,753,500
415,000 W&T Offshore, Inc............................. 8.50% 06/15/19 406,700
------------
25,976,527
------------
HEALTHCARE - 8.0%
1,925,000 CHS/Community Health Systems, Inc. (a)........ 7.13% 07/15/20 2,086,219
1,375,000 DJO Finance LLC/DJO Finance Corp. (a)......... 9.88% 04/15/18 1,454,062
1,750,000 HCA, Inc. (a)................................. 8.00% 10/01/18 2,012,500
1,000,000 HCA, Inc...................................... 5.88% 05/01/23 1,077,500
607,000 inVentiv Health, Inc. (b) (f)................. 10.00% 08/15/18 549,335
438,000 inVentiv Health, Inc. (b)..................... 11.00% 08/15/18 313,170
1,725,000 Jaguar Holdings Co./Merger (a) (b)............ 9.50% 12/01/19 1,856,531
2,000,000 Kindred Healthcare, Inc. (b).................. 6.38% 04/15/22 1,980,000
------------
11,329,317
------------
LEISURE - 9.9%
1,000,000 Avis Budget Car Rental LLC/Avis Budget
Finance, Inc. (a).......................... 5.50% 04/01/23 1,010,000
2,000,000 Boyd Gaming Corp. (a)......................... 9.00% 07/01/20 2,167,500
1,950,000 Chester Downs & Marina LLC (a) (b)............ 9.25% 02/01/20 1,745,250
2,450,000 GLP Capital LP/GLP Financing II, Inc. (a)..... 5.38% 11/01/23 2,590,875
1,300,000 MGM Resorts International (a)................. 7.63% 01/15/17 1,421,875
1,786,979 MTR Gaming Group, Inc. (a).................... 11.50% 08/01/19 1,970,144
1,250,000 National Cinemedia LLC........................ 6.00% 04/15/22 1,271,875
1,725,000 Palace Entertainment Holdings LLC/Palace
Entertainment Holdings Corp. (a) (b)....... 8.88% 04/15/17 1,771,359
------------
13,948,878
------------
MEDIA - 8.5%
1,850,000 Cablevision Systems Corp. (a)................. 8.63% 09/15/17 2,095,125
1,700,000 CCO Holdings LLC/CCO Holdings Capital
Corp. (a).................................. 8.13% 04/30/20 1,806,250
1,875,000 Cumulus Media Holdings, Inc. (a).............. 7.75% 05/01/19 1,928,906
1,700,000 iHeartCommunications, Inc. (a)................ 9.00% 03/01/21 1,706,375
1,875,000 Lamar Media Corp.............................. 5.38% 01/15/24 1,950,000
2,350,000 Mediacom Broadband LLC/Mediacom Broadband
Corp....................................... 6.38% 04/01/23 2,491,000
------------
11,977,656
------------
See Notes to Financial Statements Page 7
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
CORPORATE BONDS AND NOTES (CONTINUED)
REAL ESTATE - 1.3%
$ 1,750,000 Realogy Corp. (a) (b)......................... 7.88% 02/15/19 $ 1,848,438
------------
RETAIL - 5.8%
2,000,000 ACCO Brands Corp. (a)......................... 6.75% 04/30/20 2,135,000
1,775,000 L Brands, Inc. (a)............................ 7.60% 07/15/37 1,943,625
1,750,000 Levi Strauss & Co. (a)........................ 7.63% 05/15/20 1,865,937
2,100,000 Reynolds Group Issuer, Inc. (a)............... 9.00% 04/15/19 2,205,000
------------
8,149,562
------------
SERVICES - 6.4%
2,550,000 Casella Waste Systems, Inc. (a)............... 7.75% 02/15/19 2,613,750
2,275,000 Iron Mountain, Inc. (a)....................... 6.00% 08/15/23 2,411,500
950,000 Jurassic Holdings III (b)..................... 6.88% 02/15/21 959,500
1,000,000 Sotheby's (b)................................. 5.25% 10/01/22 985,000
875,000 United Rentals North America, Inc............. 8.25% 02/01/21 958,125
900,000 United Rentals North America, Inc............. 7.63% 04/15/22 1,008,000
------------
8,935,875
------------
TECHNOLOGY & ELECTRONICS - 2.2%
500,000 CyrusOne LP/CyrusOne Finance Corp............. 6.38% 11/15/22 528,750
1,570,000 First Data Corp. (a).......................... 11.25% 01/15/21 1,813,350
665,000 Freescale Semiconductor, Inc. (a)............. 8.05% 02/01/20 703,238
------------
3,045,338
------------
TELECOMMUNICATIONS - 11.3%
2,000,000 Centurylink, Inc. (a)......................... 7.65% 03/15/42 2,015,000
936,000 Cincinnati Bell, Inc. (a)..................... 8.75% 03/15/18 970,164
1,200,000 Fairpoint Communications, Inc. (a) (b)........ 8.75% 08/15/19 1,272,000
1,750,000 Frontier Communications Corp. (a)............. 7.13% 03/15/19 1,938,125
900,000 Frontier Communications Corp.................. 7.13% 01/15/23 963,000
1,750,000 Level 3 Communications, Inc. (a).............. 8.88% 06/01/19 1,885,625
475,000 Level 3 Financing, Inc. (b)................... 6.13% 01/15/21 499,938
1,700,000 PAETEC Holding Corp. (a)...................... 9.88% 12/01/18 1,799,450
500,000 Qwest Capital Funding, Inc.................... 6.88% 07/15/28 510,000
1,875,000 T-Mobile USA, Inc. (a)........................ 6.63% 04/01/23 1,987,500
1,925,000 Windstream Corp. (a).......................... 7.50% 06/01/22 2,052,531
------------
15,893,333
------------
UTILITY - 1.4%
2,025,000 AES Corp...................................... 4.88% 05/15/23 2,030,063
------------
TOTAL CORPORATE BONDS AND NOTES............................................. 138,928,364
(Cost $137,421,050) ------------
Page 8 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
PRINCIPAL
VALUE
(LOCAL STATED STATED VALUE
CURRENCY) DESCRIPTION COUPON MATURITY (US DOLLAR)
---------------- ---------------------------------------------- --------- ------------ ------------
FOREIGN CORPORATE BONDS AND NOTES - 19.3%
AUTOMOTIVE - 2.1%
1,300,000 Jaguar Land Rover Automotive PLC (USD) (b).... 8.13% 05/15/21 $ 1,436,500
1,117,997 Servus Luxembourg Holding S.C.A. (EUR) (b).... 7.75% 06/15/18 1,481,995
------------
2,918,495
------------
BASIC INDUSTRY - 4.0%
1,540,000 Cascades, Inc. (USD) (a)...................... 7.88% 01/15/20 1,617,000
1,000,000 Cascades, Inc. (USD) (a) (b).................. 5.50% 07/15/22 991,250
1,150,000 FMG Resources (August 2006) Pty Ltd.
(USD) (a) (b).............................. 6.88% 04/01/22 1,191,687
1,750,000 Masonite International Corp. (USD) (a) (b).... 8.25% 04/15/21 1,881,250
------------
5,681,187
------------
CAPITAL GOODS - 4.5%
2,000,000 Ardagh Packaging Finance PLC/Ardagh Holdings
USA, Inc. (USD) (a) (b).................... 6.75% 01/31/21 2,050,000
1,900,000 INEOS Group Holdings S.A. (USD) (b)........... 5.88% 02/15/19 1,902,375
800,000 KraussMaffei Group GmbH (EUR)................. 8.75% 12/15/20 1,092,385
1,283,000 Trinseo Materials Operating S.C.A./Trinseo
Materials Finance, Inc. (USD) (a).......... 8.75% 02/01/19 1,359,980
------------
6,404,740
------------
ENERGY - 2.4%
645,000 Precision Drilling Corp. (USD)................ 6.63% 11/15/20 667,575
700,000 Puma International Financing S.A. (USD) (b)... 6.75% 02/01/21 722,750
2,000,000 Teekay Offshore Partners LP/Teekay Offshore
Finance Corp. (USD) (a).................... 6.00% 07/30/19 1,937,500
------------
3,327,825
------------
MEDIA - 1.4%
1,900,000 Numericable Group S.A. (USD) (b).............. 6.00% 05/15/22 1,945,125
------------
SERVICES - 0.7%
700,000 Bilbao Luxembourg S.A. (EUR) (g).............. 10.50% 12/01/18 925,450
------------
TELECOMMUNICATIONS - 1.9%
1,900,000 Intelsat Luxembourg S.A. (USD) (a)............ 7.75% 06/01/21 1,992,625
700,000 Wind Acquisition Finance S.A. (USD) (b)....... 7.38% 04/23/21 686,000
------------
2,678,625
------------
TRANSPORTATION - 0.9%
1,400,000 Dynagas LNG Partners LP/Dynagas Finance, Inc.
(USD) (a).................................. 6.25% 10/30/19 1,337,000
------------
UTILITY - 1.4%
1,800,000 LBC Tank Terminals Holding Netherlands BV
(USD) (b).................................. 6.88% 05/15/23 1,926,000
------------
TOTAL FOREIGN CORPORATE BONDS AND NOTES..................................... 27,144,447
(Cost $27,032,528) ------------
See Notes to Financial Statements Page 9
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
MORTGAGE-BACKED SECURITIES - 9.6%
COLLATERALIZED MORTGAGE OBLIGATIONS - 7.9%
Citicorp Mortgage Securities, Inc.
$ 1,749,037 Series 2007-2, Class 1A3................... 6.00% 02/25/37 $ 1,846,264
Countrywide Alternative Loan Trust
990,223 Series 2006-29T1, Class 2A6................ 6.50% 10/25/36 917,065
154,222 Series 2007-11T1, Class A37 (h)............ 39.11% 05/25/37 272,191
1,114,486 Series 2007-OA3, Class 1A1 (h)............. 0.29% 04/25/47 940,658
Countrywide Home Loan Mortgage Pass-Through Trust
203,038 Series 2006-21, Class A8................... 5.75% 02/25/37 193,170
HarborView Mortgage Loan Trust
845,565 Series 2005-9, Class B10 (d) (h) (i)....... 1.91% 06/20/35 9
Home Equity Asset Trust
1,190,000 Series 2006-4, Class 2A4 (h)............... 0.43% 08/25/36 1,009,108
1,261,000 Series 2006-7, Class 2A3 (h)............... 0.30% 01/25/37 891,759
Nomura Resecuritization Trust
3,925 Series 2014-1R, Class 2A6 (b).............. (j) 02/25/37 1
2,757,000 Series 2014-1R, Class 2A11 (b) (h)......... 0.29% 02/26/37 1,449,939
Residential Accredit Loans, Inc.
162,443 Series 2007-Q56, Class A2 (h).............. 54.32% 04/25/37 372,608
Securitized Asset Backed Receivables LLC Trust
1,338,363 Series 2007, Class BR4 (h)................. 0.35% 05/25/37 881,468
1,754,910 Series 2007-BR3, Class A2B (h)............. 0.37% 04/25/37 1,171,608
Washington Mutual Alternative Mortgage
Pass-Through Certificates
47,317 Series 2007-5, Class A11 (h)............... 38.57% 06/25/37 93,697
Wells Fargo Mortgage Backed Securities Trust
735,055 Series 2006-8, Class A15................... 6.00% 07/25/36 746,387
279,985 Series 2007-8, Class 2A2................... 6.00% 07/25/37 277,387
------------
11,063,319
------------
COMMERCIAL MORTGAGE-BACKED SECURITIES - 1.7%
Banc of America Large Loan, Inc.
1,548,035 Series 2005-MIB1, Class L (h) (i) (k)...... 3.15% 03/15/22 77,897
Greenwich Capital Commercial Funding Corp.
1,180,000 Series 2007-GG11, Class AJ (h)............. 6.26% 12/10/49 1,236,575
Vornado DP LLC
930,000 Series 2010-VNO, Class D (b)............... 6.36% 09/13/28 1,077,961
------------
2,392,433
------------
TOTAL MORTGAGE-BACKED SECURITIES............................................ 13,455,752
(Cost $12,202,143) ------------
ASSET-BACKED SECURITIES - 5.3%
Ace Securities Corp.
961,670 Series 2003-MH1, Class A4 (b).............. 6.50% 08/15/30 1,025,152
BankAmerica Manufactured Housing Contract Trust II
2,300,000 Series 1997-1, Class B1 (i)................ 6.94% 06/10/21 2,706,117
Bombardier Capital Mortgage
Securitization Corp.
272,837 Series 1999-B, Class A1B................... 6.61% 12/15/29 147,270
Citigroup Mortgage Loan Trust, Inc.
2,301,000 Series 2003-HE3, Class M4 (h).............. 3.15% 12/25/33 1,149,369
Page 10 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
ASSET-BACKED SECURITIES (CONTINUED)
Green Tree Financial Corp.
$ 77,872 Series 1997-4, Class B1.................... 7.23% 02/15/29 $ 5,542
681,654 Series 1998-4, Class M1.................... 6.83% 04/01/30 443,219
1,305,982 Series 1999-3, Class M1.................... 6.96% 02/01/31 81,773
GSAMP Trust
2,903,792 Series 2006-S5, Class A1 (h)............... 0.33% 09/25/36 85,745
IMC Home Equity Loan Trust
2,055,926 Series 1997-3, Class B..................... 7.87% 08/20/28 1,077,965
2,216,913 Series 1997-5, Class B (i)................. 7.59% 11/20/28 504,757
Oakwood Mortgage Investors, Inc.
712,065 Series 1999-B, Class M1.................... 7.18% 12/15/26 246,289
------------
TOTAL ASSET-BACKED SECURITIES............................................... 7,473,198
(Cost $5,186,156) ------------
SENIOR FLOATING-RATE LOAN INTERESTS - 2.6%
CONSUMER GOODS - 0.5%
668,271 Albertsons, Inc., Term Loan B-2 (h)........... 4.75% 03/21/19 666,600
------------
FOOD & STAPLES RETAILING - 0.3%
547,250 Roundy's Supermarkets, Tranche B Term Loan
(h)........................................ 5.75% 02/21/21 485,684
------------
LEISURE - 0.7%
997,500 Caesars Growth Properties, LLC, Term
Loan B (h)................................. 6.25% 05/08/21 940,144
------------
TELECOMMUNICATIONS - 0.7%
985,000 Fairpoint Communications, Inc.,
Term Loan (h).............................. 7.50% 02/14/19 991,777
------------
UTILITY - 0.4%
834,744 Texas Competitive Electric Holdings Co., LLC,
Tranche B2 (e) (h)......................... 4.65% 10/10/17 606,976
------------
TOTAL SENIOR FLOATING-RATE LOAN INTERESTS................................... 3,691,181
(Cost $4,009,668) ------------
SHARES DESCRIPTION VALUE
---------------- ---------------------------------------------------------------------------- ------------
COMMON STOCKS - 2.6%
AUTOMOTIVE - 0.3%
33,500 Ford Motor Co............................................................... 472,015
------------
BASIC INDUSTRY - 0.4%
94,150 Cascades, Inc............................................................... 523,775
------------
INDUSTRIAL CONGLOMERATES - 0.4%
20,275 General Electric Co......................................................... 523,298
------------
SERVICES - 0.3%
13,250 Iron Mountain, Inc.......................................................... 477,928
------------
TELECOMMUNICATIONS - 0.8%
170,934 Frontier Communications Corp................................................ 1,117,908
------------
UTILITY - 0.4%
36,000 AES Corp.................................................................... 506,520
------------
TOTAL COMMON STOCKS......................................................... 3,621,444
(Cost $3,212,665) ------------
See Notes to Financial Statements Page 11
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
SHARES/UNITS DESCRIPTION VALUE
---------------- ---------------------------------------------------------------------------- ------------
MASTER LIMITED PARTNERSHIPS - 0.1%
ENERGY - 0.1%
4,411 EV Energy Partners, LP...................................................... $ 143,137
------------
TOTAL MASTER LIMITED PARTNERSHIPS........................................... 143,137
(Cost $150,804) ------------
PREFERRED SECURITIES - 0.0%
4,000 Soloso CDO, Ltd., Series 2005-1 (j) (k)..................................... 40,000
------------
TOTAL PREFERRED SECURITIES.................................................. 40,000
(Cost $0) ------------
PRINCIPAL STATED STATED
VALUE DESCRIPTION COUPON MATURITY VALUE
---------------- ---------------------------------------------- --------- ------------ ------------
STRUCTURED NOTES - 0.0%
$ 5,750,000 Preferred Term Securities XXV, Ltd. (k)....... (j) 06/22/37 575
Preferred Term Securities XXVI, Ltd.
2,500,000 Subordinated Note (k)...................... (j) 09/22/37 250
------------
TOTAL STRUCTURED NOTES...................................................... 825
(Cost $0) ------------
TOTAL INVESTMENTS - 138.2%.................................................. 194,498,348
(Cost $189,215,014) (l)
OUTSTANDING LOAN - (41.8%).................................................. (58,850,000)
NET OTHER ASSETS AND LIABILITIES - 3.6%..................................... 5,088,521
------------
NET ASSETS - 100.0%......................................................... $140,736,869
============
-----------------------------
(a) All or a portion of this security serves as collateral on the outstanding
loan.
(b) This security, sold within the terms of a private placement memorandum, is
exempt from registration upon resale under Rule 144A under the Securities
Act of 1933, as amended (the "1933 Act"), and may be resold in
transactions exempt from registration, normally to qualified institutional
buyers. Pursuant to procedures adopted by the Fund's Board of Trustees,
this security has been determined to be liquid by Brookfield Investment
Management Inc., the Fund's sub-advisor. Although market instability can
result in periods of increased overall market illiquidity, liquidity for
each security is determined based on security specific factors and
assumptions, which require subjective judgment. At October 31, 2014,
securities noted as such amounted to $44,088,656 or 31.33% of net assets.
(c) Multi-Step Coupon Bond - Coupon steps up or down based upon ratings
changes by Standard & Poor's Ratings Group or Moody's Investors Service,
Inc. The interest rate shown reflects the rate in effect at October 31,
2014.
(d) The issuer is in default. Income is not being accrued.
(e) This issuer has filed for protection in federal bankruptcy court.
(f) This security is a Payment-in-Kind ("PIK") Toggle Note whereby the issuer
may elect to pay interest in cash at the stated coupon or in PIK at
12.00%. The first interest payment is scheduled for February 15, 2015.
(g) This security is a PIK Toggle Note whereby the issuer may elect to pay
interest in cash at the stated coupon or in PIK at 11.25%. The security
paid interest in cash.
(h) Floating rate security. The interest rate shown reflects the rate in
effect at October 31, 2014.
(i) Security missed one or more of its interest payments.
(j) Zero coupon security.
(k) This security, sold within the terms of a private placement memorandum, is
exempt from registration upon resale under Rule 144A under the 1933 Act,
and may be resold in transactions exempt from registration, normally to
qualified institutional buyers (see Note 2C - Restricted Securities in the
Notes to Financial Statements).
Page 12 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
(l) Aggregate cost for federal income tax purposes is $208,903,771. As of
October 31, 2014, the aggregate gross unrealized appreciation for all
securities in which there was an excess of value over tax cost was
$11,584,614 and the aggregate gross unrealized depreciation for all
securities in which there was an excess of tax cost over value was
$25,990,037.
CDO Collateralized Debt Obligation
CAD Canadian Dollar
EUR Euro
USD United States Dollar
-----------------------------
VALUATION INPUTS
A summary of the inputs used to value the Fund's investments as of October 31,
2014 is as follows (see Note 2A - Portfolio Valuation in the Notes to Financial
Statements):
LEVEL 2 LEVEL 3
TOTAL LEVEL 1 SIGNIFICANT SIGNIFICANT
VALUE AT QUOTED OBSERVABLE UNOBSERVABLE
10/31/2014 PRICES INPUTS INPUTS
------------- ------------- ------------- -------------
Corporate Bonds and Notes*......................... $ 138,928,364 $ -- $ 138,928,364 $ --
Foreign Corporate Bonds and Notes*................. 27,144,447 -- 27,144,447 --
Mortgage-Backed Securities:
Collateralized Mortgage Obligations............. 11,063,319 -- 11,063,319 --
Commercial Mortgage-Backed Securities........... 2,392,433 -- 2,392,433 --
Asset-Backed Securities............................ 7,473,198 -- 7,473,198 --
Senior Floating-Rate Loan Interests*............... 3,691,181 -- 3,691,181 --
Common Stocks*..................................... 3,621,444 3,621,444 -- --
Master Limited Partnerships*....................... 143,137 143,137 -- --
Preferred Securities............................... 40,000 -- --
40,000
Structured Notes................................... 825 -- -- 825
------------- ------------- ------------- -------------
Total Investments.................................. 194,498,348 3,764,581 190,692,942 40,825
Forward Foreign Currency Contracts**............... 237,190 -- 237,190 --
------------- ------------- ------------- -------------
Total.............................................. $ 194,735,538 $ 3,764,581 $ 190,930,132 $ 40,825
============= ============= ============= =============
* See Portfolio of Investments for industry breakout.
** See the Schedule of Forward Foreign Currency Contracts for contract and
currency detail.
All transfers in and out of the Levels during the period are assumed to be
transferred on the last day of the period at their current value. As of October
31, 2014, the Fund transferred Structured Notes valued at $825 from Level 2 to
Level 3 of the fair value hierarchy. The Structured Notes that transferred from
Level 2 to Level 3 did so primarily as a result of using a price obtained from a
broker and not from an independent third party pricing service. Level 3
Structured Notes and Preferred Securities are valued using broker quotes. These
values are based on unobservable and non-quantitative inputs. The Fund's Board
of Trustees has adopted valuation procedures that are utilized by the Pricing
Committee to oversee the day-to-day valuation of the Fund's investments. The
Pricing Committee, through the Fund's fund accounting agent, monitors daily
pricing via tolerance checks and stale and unchanged price reviews. The Pricing
Committee also reviews monthly back testing of pricing service prices by
comparing sales prices of Fund investments to prior day pricing service prices.
Additionally, the Pricing Committee reviews periodic information from the Fund's
third party pricing service that compares secondary market trade prices to their
daily valuations.
See Notes to Financial Statements Page 13
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
PORTFOLIO OF INVESTMENTS (CONTINUED)
OCTOBER 31, 2014
The following table presents the activity of the Fund's investments measured at
fair value on a recurring basis using significant unobservable inputs (Level 3)
for the period presented.
Beginning Balance at October 31, 2013
Preferred Securities $ 88,500
Structured Notes --
Net Realized Gain (Loss) --
Net Change in Unrealized Appreciation/Depreciation
Preferred Securities (48,500)
Structured Notes --
Purchases --
Sales --
Transfers In
Preferred Securities --
Structured Notes 825
Transfers Out --
ENDING BALANCE AT OCTOBER 31, 2014
Preferred Securities 40,000
Structured Notes 825
----------
Total Level 3 holdings $ 40,825
==========
There was no net change in unrealized appreciation (depreciation) from Level 3
investments held as of October 31, 2014.
FORWARD FOREIGN CURRENCY CONTRACTS
--------------------------------------------------
PURCHASE SALE UNREALIZED
SETTLEMENT AMOUNT AMOUNT VALUE AS OF VALUE AS OF APPRECIATION
DATE COUNTERPARTY PURCHASED (a) SOLD (a) OCTOBER 31, 2014 OCTOBER 31, 2014 (DEPRECIATION)
---------- ------------ --------------- --------------- ---------------- ---------------- --------------
11/17/14 BNYM USD 517,466 CAD 566,030 $ 517,466 $ 502,013 $ 15,453
11/17/14 BNYM USD 3,439,149 EUR 2,567,180 3,439,149 3,217,412 221,737
--------------
Net unrealized appreciation (depreciation)....................................................... $ 237,190
==============
(a) Please see Portfolio of Investments for currency description.
Counterparty Abbreviations:
BNYM Bank of New York Mellon
Page 14 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF ASSETS AND LIABILITIES
OCTOBER 31, 2014
ASSETS:
Investments, at value
(Cost $189,215,014)......................................................................... $ 194,498,348
Cash........................................................................................... 1,678,893
Foreign currency (Cost $15,584)................................................................ 14,539
Unrealized appreciation on forward foreign currency contracts.................................. 237,190
Receivables:
Interest.................................................................................... 3,391,627
Dividends................................................................................... 53,953
Prepaid expenses............................................................................... 7,468
-------------
Total Assets............................................................................. 199,882,018
-------------
LIABILITIES:
Outstanding loan............................................................................... 58,850,000
Payables:
Investment advisory fees.................................................................... 151,959
Audit and tax fees.......................................................................... 70,200
Administrative fees......................................................................... 25,472
Printing fees............................................................................... 21,015
Interest and fees on loan................................................................... 7,346
Transfer agent fees......................................................................... 6,343
Custodian fees.............................................................................. 6,065
Legal fees.................................................................................. 3,676
Trustees' fees and expenses................................................................. 1,515
Financial reporting fees.................................................................... 771
Other liabilities.............................................................................. 787
-------------
Total Liabilities........................................................................ 59,145,149
-------------
NET ASSETS..................................................................................... $ 140,736,869
=============
NET ASSETS CONSIST OF:
Paid-in capital................................................................................ $ 189,158,694
Par value...................................................................................... 84,589
Accumulated net investment income (loss)....................................................... 7,880,267
Accumulated net realized gain (loss) on investments, forward foreign currency
contracts and foreign currency transactions................................................. (61,900,329)
Net unrealized appreciation (depreciation) on investments, forward foreign
currency contracts and foreign currency translation......................................... 5,513,648
-------------
NET ASSETS..................................................................................... $ 140,736,869
=============
NET ASSET VALUE, per Common Share (par value $0.01 per Common Share)........................... $ 16.64
=============
Number of Common Shares outstanding (unlimited number of Common Shares has been authorized).... 8,458,869
=============
See Notes to Financial Statements Page 15
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF OPERATIONS
FOR THE YEAR ENDED OCTOBER 31, 2014
INVESTMENT INCOME:
Interest....................................................................................... $ 14,968,007
Dividends (net of foreign withholding tax of $519)............................................. 117,950
Other.......................................................................................... 2,827
-------------
Total investment income.................................................................. 15,088,784
-------------
EXPENSES:
Investment advisory fees....................................................................... 1,823,391
Interest and fees on loan...................................................................... 841,957
Legal fees..................................................................................... 220,549
Administrative fees............................................................................ 206,396
Audit and tax fees............................................................................. 71,904
Printing fees.................................................................................. 69,638
Transfer agent fees............................................................................ 39,641
Custodian fees................................................................................. 23,018
Trustees' fees and expenses.................................................................... 18,302
Financial reporting fees....................................................................... 9,251
Other.......................................................................................... 94,493
-------------
Total expenses........................................................................... 3,418,540
-------------
NET INVESTMENT INCOME (LOSS)................................................................... 11,670,244
-------------
NET REALIZED AND UNREALIZED GAIN (LOSS):
Net realized gain (loss) on:
Investments................................................................................. (1,440,305)
Forward foreign currency contracts.......................................................... 103,606
Foreign currency transactions............................................................... 106,504
-------------
Net realized gain (loss)....................................................................... (1,230,195)
-------------
Net change in unrealized appreciation (depreciation) on:
Investments................................................................................. (5,935,646)
Forward foreign currency contracts.......................................................... 183,673
Foreign currency translation................................................................ (8,673)
-------------
Net change in unrealized appreciation (depreciation)........................................... (5,760,646)
-------------
NET REALIZED AND UNREALIZED GAIN (LOSS)........................................................ (6,990,841)
-------------
NET INCREASE (DECREASE) IN NET ASSETS RESULTING FROM OPERATIONS................................ $ 4,679,403
=============
Page 16 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENTS OF CHANGES IN NET ASSETS
YEAR YEAR
ENDED ENDED
10/31/2014 10/31/2013
-------------- --------------
OPERATIONS:
Net investment income (loss)........................................................ $ 11,670,244 $ 12,538,550
Net realized gain (loss)............................................................ (1,230,195) 1,897,930
Net change in unrealized appreciation (depreciation)................................ (5,760,646) 1,770,493
-------------- --------------
Net increase (decrease) in net assets resulting from operations..................... 4,679,403 16,206,973
-------------- --------------
DISTRIBUTIONS TO SHAREHOLDERS FROM:
Net investment income............................................................... (10,063,829) (5,633,114)
Return of capital................................................................... (2,116,942) (6,652,538)
-------------- --------------
Total distributions to shareholders................................................. (12,180,771) (12,285,652)
-------------- --------------
CAPITAL TRANSACTIONS:
Proceeds from Common Shares sold through at the market offering..................... -- 112,291
-------------- --------------
Net increase (decrease) in net assets resulting from capital transactions........... -- 112,291
-------------- --------------
Total increase (decrease) in net assets............................................. (7,501,368) 4,033,612
NET ASSETS:
Beginning of period................................................................. 148,238,237 144,204,625
-------------- --------------
End of period....................................................................... $ 140,736,869 $ 148,238,237
============== ==============
Accumulated net investment income (loss) at end of period........................... $ 7,880,267 $ 5,900,853
============== ==============
CAPITAL TRANSACTIONS WERE AS FOLLOWS:
Common Shares at beginning of period................................................ 8,458,869 8,452,416
Common Shares sold through at the market offerings.................................. -- 6,453
-------------- --------------
Common Shares at end of period...................................................... 8,458,869 8,458,869
============== ==============
See Notes to Financial Statements Page 17
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
STATEMENT OF CASH FLOWS
FOR THE YEAR ENDED OCTOBER 31, 2014
CASH FLOWS FROM OPERATING ACTIVITIES:
Net increase (decrease) in net assets resulting from operations................. $ 4,679,403
Adjustments to reconcile net increase (decrease) in net assets resulting from
operations to net cash provided by operating activities:
Purchases of investments.................................................. (59,911,464)
Sales, maturities and paydowns of investments............................. 57,455,935
Net amortization/accretion of premiums/discounts on investments........... (344,717)
Net realized gain/loss on investments..................................... 1,440,305
Net change in unrealized appreciation/depreciation on forward foreign
currency contracts.................................................... (183,673)
Net change in unrealized appreciation/depreciation on investments......... 5,935,646
CHANGES IN ASSETS AND LIABILITIES:
Decrease in interest receivable........................................... 616,889
Increase in dividends receivable.......................................... (53,953)
Decrease in prepaid expenses.............................................. 11,306
Decrease in other assets.................................................. 6,042
Increase in interest and fees on loan payable............................. 2,724
Decrease in investment advisory fees payable.............................. (2,228)
Decrease in legal fees payable............................................ (1,511)
Decrease in printing fees payable......................................... (1,408)
Increase in administrative fees payable................................... 5,465
Decrease in custodian fees payable........................................ (18,074)
Increase in transfer agent fees payable................................... 1,181
Decrease in Trustees' fees and expenses payable........................... (341)
Increase in other liabilities payable..................................... 787
--------------
CASH PROVIDED BY OPERATING ACTIVITIES........................................... $ 9,638,314
--------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Distributions to Common Shareholders from net investment income........... (10,063,829)
Distributions to Common Shareholders from return of capital............... (2,116,942)
Proceeds from borrowing................................................... 16,150,000
Repayment of borrowing.................................................... (12,700,000)
--------------
CASH USED IN FINANCING ACTIVITIES............................................... (8,730,771)
--------------
Increase in cash and foreign currency (a)....................................... 907,543
Cash and foreign currency at beginning of period................................ 785,889
--------------
CASH AND FOREIGN CURRENCY AT END OF PERIOD...................................... $ 1,693,432
==============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the period for interest and fees............................... $ 839,233
==============
(a) Includes net change in unrealized appreciation (depreciation) on foreign
currency of ($1,045).
Page 18 See Notes to Financial Statements
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
FINANCIAL HIGHLIGHTS
FOR A COMMON SHARE OUTSTANDING THROUGHOUT EACH PERIOD
YEAR YEAR YEAR YEAR YEAR
ENDED ENDED ENDED ENDED ENDED
10/31/2014 10/31/2013 10/31/2012 10/31/2011 10/31/2010 (a) (b)
-------------- -------------- -------------- -------------- ------------------
Net asset value, beginning of period...... $ 17.52 $ 17.06 $ 16.17 $ 15.87 $ 14.22
---------- ---------- ---------- ---------- ----------
INCOME FROM INVESTMENT OPERATIONS:
Net investment income (loss).............. 1.38 1.48 1.52 0.59 1.86
Net realized and unrealized gain (loss) (0.82) 0.43 0.90 0.32 1.17
---------- ---------- ---------- ---------- ----------
Total from investment operations.......... 0.56 1.91 2.42 0.91 3.03
---------- ---------- ---------- ---------- ----------
DISTRIBUTIONS PAID TO SHAREHOLDERS FROM:
Net investment income..................... (1.19) (0.66) (0.61) (0.54) --
Return of capital......................... (0.25) (0.79) (0.94) (0.07) (1.38)
---------- ---------- ---------- ---------- ----------
Total distributions....................... (1.44) (1.45) (1.55) (0.61) (1.38)
---------- ---------- ---------- ---------- ----------
Premiums from shares sold in at the market
offerings.............................. -- 0.00 (d) 0.02 -- --
---------- ---------- ---------- ---------- ----------
Net asset value, end of period............ $ 16.64 $ 17.52 $ 17.06 $ 16.17 $ 15.87
========== ========== ========== ========== ==========
Market value, end of period............... $ 15.60 $ 15.97 $ 17.69 $ 14.51 $ 14.49
========== ========== ========== ========== ==========
TOTAL RETURN BASED ON NET ASSET
VALUE (c).............................. 4.03% 12.19% 16.11% 13.60% 23.46%
========== ========== ========== ========== ==========
TOTAL RETURN BASED ON MARKET VALUE (c).... 6.99% (1.38)% 34.16% 11.64% 21.71%
========== ========== ========== ========== ==========
-----------------------------
RATIOS TO AVERAGE NET ASSETS/SUPPLEMENTAL DATA:
Net assets, end of period (in 000's)...... $ 140,737 $ 148,238 $ 144,205 $ 131,109 $ 50,468
Ratio of total expenses to average net
assets................................. 2.34% 2.22% 2.52% 2.35% 2.29%
Ratio of total expenses to average net
assets excluding interest expense...... 1.77% 1.71% 1.93% 1.93% 2.21%
Ratio of net investment income (loss) to
average net assets..................... 8.00% 8.55% 9.52% 9.65% 12.54%
Portfolio turnover rate................... 28% 27% 33% 49% 332% (e)
INDEBTEDNESS:
Total loan outstanding (in 000's)......... $ 58,850 $ 55,400 $ 54,400 $ 54,400 N/A
Asset coverage per $1,000 of
indebtedness (f)....................... $ 3,391 $ 3,676 $ 3,651 $ 3,410 N/A
-----------------------------
(a) On September 20, 2010, the Fund's Board of Trustees approved a new
investment management agreement with First Trust Advisors L.P. and a new
sub-advisory agreement with Brookfield Investment Management Inc.
("Brookfield"), and on December 20, 2010, the shareholders voted to
approve both agreements.
(b) All share amounts, net asset values and market values have been adjusted
as a result of the 1-for-3 reverse share split on September 30, 2011.
(c) Total return is based on the combination of reinvested dividend, capital
gain and return of capital distributions, if any, at prices obtained by
the Dividend Reinvestment Plan, and changes in net asset value per share
for net asset value returns and changes in Common Share price for market
value returns. Total returns do not reflect sales load and are not
annualized for periods less than one year. Past performance is not
indicative of future results.
(d) Amount represents less than $0.01 per share.
(e) For the fiscal year ended October 31, 2010, the Fund's portfolio turnover
rate reflects mortgage pool forward commitments as purchases and sales.
This caused the reported portfolio turnover rate to be higher than in
subsequent fiscal years. The turnover rate may vary greatly from year to
year as well as within a year.
(f) Calculated by subtracting the Fund's total liabilities (not including the
loan outstanding) from the Fund's total assets, and dividing by the
outstanding loan balance in 000's.
N/A Not applicable.
See Notes to Financial Statements Page 19
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
1. ORGANIZATION
First Trust Strategic High Income Fund II (the "Fund") is a diversified,
closed-end management investment company organized as a Massachusetts business
trust on January 18, 2006, and is registered with the Securities and Exchange
Commission under the Investment Company Act of 1940, as amended (the "1940
Act"). The Fund trades under the ticker symbol FHY on the New York Stock
Exchange ("NYSE").
The Fund's primary investment objective is to seek a high level of current
income. The Fund seeks capital growth as a secondary objective. The Fund seeks
to achieve its investment objectives by investing in a diversified portfolio of
below-investment grade and investment grade debt securities, and equity
securities that Brookfield Investment Management Inc. ("Brookfield" or the
"Sub-Advisor") believes offer attractive yield and/or capital appreciation
potential. The Fund may invest up to 100% of its Managed Assets in
below-investment grade debt securities (commonly referred to as "high-yield" or
"junk" bonds). Managed Assets means the average daily total asset value of the
Fund minus the sum of the Fund's liabilities other than the principal amount of
borrowings or reverse repurchase agreements, if any. There can be no assurance
that the Fund will achieve its investment objectives. The Fund may not be
appropriate for all investors.
2. SIGNIFICANT ACCOUNTING POLICIES
The following is a summary of significant accounting policies consistently
followed by the Fund in the preparation of its financial statements. The
preparation of financial statements in accordance with accounting principles
generally accepted in the United States of America ("U.S. GAAP") requires
management to make estimates and assumptions that affect the reported amounts
and disclosures in the financial statements. Actual results could differ from
those estimates.
A. PORTFOLIO VALUATION:
The net asset value ("NAV") of the Common Shares of the Fund is determined
daily, as of the close of regular trading on the NYSE, normally 4:00 p.m.
Eastern time, on each day the NYSE is open for trading. If the NYSE closes early
on a valuation day, the NAV is determined as of that time. Domestic debt
securities and foreign securities are priced using data reflecting the earlier
closing of the principal markets for those securities. The NAV per Common Share
is calculated by dividing the value of all assets of the Fund (including accrued
interest and dividends), less all liabilities (including accrued expenses,
dividends declared but unpaid and any borrowings of the Fund), by the total
number of Common Shares outstanding.
The Fund's investments are valued daily at market value or, in absence of market
value with respect to any portfolio securities, at fair value. Market value
prices represent last sale or official closing prices from a national or foreign
exchange (i.e., a regulated market) and are primarily obtained from third party
pricing services. Fair value prices represent any prices not considered market
value prices and are either obtained from a third party pricing service or are
determined by the Pricing Committee of the Fund's investment advisor, First
Trust Advisors L.P. ("First Trust" or the "Advisor") in accordance with
valuation procedures adopted by the Fund's Board of Trustees, and in accordance
with provisions of the 1940 Act. Investments valued by the Advisor's Pricing
Committee, if any, are footnoted as such in the footnotes to the Portfolio of
Investments. The Fund's investments are valued as follows:
Corporate bonds, notes, U.S. government securities, mortgage-backed
securities, asset-backed securities and other debt securities are valued on
the basis of valuations provided by dealers who make markets in such
securities or by an independent pricing service approved by the Fund's Board
of Trustees, which may use the following valuation inputs when available:
1) benchmark yields;
2) reported trades;
3) broker/dealer quotes;
4) issuer spreads;
5) benchmark securities;
6) bids and offers; and
7) reference data including market research publications.
Common stocks and other equity securities listed on any national or foreign
exchange (excluding The NASDAQ(R) Stock Market LLC ("NASDAQ") and the London
Stock Exchange Alternative Investment Market ("AIM")) are valued at the last
sale price on the exchange on which they are principally traded or, for
NASDAQ and AIM securities, the official closing price. Securities traded on
more than one securities exchange are valued at the last sale price or
official closing price, as applicable, at the close of the securities
exchange representing the principal market for such securities.
Securities traded in an over-the-counter market are fair valued at the mean
of their most recent bid and asked price, if available, and otherwise at
their closing bid price.
Page 20
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
The Senior Floating-Rate Loan interests ("Senior Loans")(1) held in the Fund
are not listed on any securities exchange or board of trade. Senior Loans
are typically bought and sold by institutional investors in individually
negotiated private transactions that function in many respects like an
over-the-counter secondary market, although typically no formal
market-makers exist. This market, while having grown substantially since its
inception, generally has fewer trades and less liquidity than the secondary
market for other types of securities. Some Senior Loans have few or no
trades, or trade infrequently, and information regarding a specific Senior
Loan may not be widely available or may be incomplete. Accordingly,
determinations of the market value of Senior Loans may be based on
infrequent and dated information. Because there is less reliable, objective
data available, elements of judgment may play a greater role in valuation of
Senior Loans than for other types of securities. Typically, Senior Loans are
fair valued using information provided by a third party pricing service. The
third party pricing service primarily uses over-the-counter pricing from
dealer runs and broker quotes from indicative sheets to value the Senior
Loans.
Forward foreign currency contracts are fair valued at the current day's
interpolated foreign exchange rate, as calculated using the current day's
spot rate, and the thirty, sixty, ninety, and one-hundred eighty day forward
rates provided by an independent pricing service.
Fixed income and other debt securities having a remaining maturity of 60
days or less when purchased are fair valued at cost adjusted for
amortization of premiums and accretion of discounts (amortized cost),
provided the Advisor's Pricing Committee has determined that the use of
amortized cost is an appropriate reflection of fair value given market and
issuer specific conditions existing at the time of the determination.
Factors that may be considered in determining the appropriateness of the use
of amortized cost include, but are not limited to, the following:
1) the credit conditions in the relevant market and changes thereto;
2) the liquidity conditions in the relevant market and changes thereto;
3) the interest rate conditions in the relevant market and changes
thereto (such as significant changes in interest rates);
4) issuer-specific conditions (such as significant credit
deterioration); and
5) any other market-based data the Advisor's Pricing Committee
considers relevant. In this regard, the Advisor's Pricing Committee
may use last-obtained market-based data to assist it when valuing
portfolio securities using amortized cost.
Certain securities may not be able to be priced by pre-established pricing
methods. Such securities may be valued by the Fund's Board of Trustees or its
delegate, the Advisor's Pricing Committee, at fair value. These securities
generally include, but are not limited to, restricted securities (securities
which may not be publicly sold without registration under the Securities Act of
1933, as amended (the "1933 Act")) for which a pricing service is unable to
provide a market price; securities whose trading has been formally suspended; a
security whose market or fair value price is not available from a
pre-established pricing source; a security with respect to which an event has
occurred that is likely to materially affect the value of the security after the
market has closed but before the calculation of the Fund's NAV or make it
difficult or impossible to obtain a reliable market quotation; and a security
whose price, as provided by the pricing service, does not reflect the security's
fair value. As a general principle, the current fair value of a security would
appear to be the amount which the owner might reasonably expect to receive for
the security upon its current sale. When fair value prices are used, generally
they will differ from market quotations or official closing prices on the
applicable exchanges. A variety of factors may be considered in determining the
fair value of such securities, including, but not limited to, the following:
1) the fundamental business data relating to the issuer;
2) an evaluation of the forces which influence the market in which
these securities are purchased and sold;
3) the type, size and cost of a security;
4) the financial statements of the issuer;
5) the credit quality and cash flow of the issuer, based on the
Sub-Advisor's or external analysis;
6) the information as to any transactions in or offers for the
security;
7) the price and extent of public trading in similar securities (or
equity securities) of the issuer/borrower, or comparable companies;
8) the coupon payments;
9) the quality, value and salability of collateral, if any, securing
the security;
10) the business prospects of the issuer, including any ability to
obtain money or resources from a parent or affiliate and an
assessment of the issuer's management;
11) the prospects for the issuer's industry, and multiples (of earnings
and/or cash flows) being paid for similar businesses in that
industry; and
12) other relevant factors.
(1) The terms "security" and "securities" used throughout the Notes to Financial
Statements include Senior Loans.
Page 21
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
The Fund invests a significant portion of its assets in below-investment grade
debt securities, including structured finance securities and corporate bonds.
Structured finance securities include: asset-backed securities, including home
equity, manufactured housing, etc.; commercial mortgage-backed securities;
residential mortgage-backed or private-label collateralized mortgage
obligations; and collateralized debt obligations. The value and related income
of these securities is sensitive to changes in economic conditions, including
delinquencies and/or defaults.
The Fund is subject to fair value accounting standards that define fair value,
establish the framework for measuring fair value and provide a three-level
hierarchy for fair valuation based upon the inputs to the valuation as of the
measurement date. The three levels of the fair value hierarchy are as follows:
o Level 1 - Level 1 inputs are quoted prices in active markets for
identical investments. An active market is a market in which
transactions for the investment occur with sufficient frequency and
volume to provide pricing information on an ongoing basis.
o Level 2 - Level 2 inputs are observable inputs, either directly or
indirectly, and include the following:
o Quoted prices for similar investments in active markets.
o Quoted prices for identical or similar investments in markets
that are non-active. A non-active market is a market where
there are few transactions for the investment, the prices are
not current, or price quotations vary substantially either
over time or among market makers, or in which little
information is released publicly.
o Inputs other than quoted prices that are observable for the
investment (for example, interest rates and yield curves
observable at commonly quoted intervals, volatilities,
prepayment speeds, loss severities, credit risks, and default
rates).
o Inputs that are derived principally from or corroborated by
observable market data by correlation or other means.
o Level 3 - Level 3 inputs are unobservable inputs. Unobservable
inputs may reflect the reporting entity's own assumptions about the
assumptions that market participants would use in pricing the
investment.
The inputs or methodology used for valuing investments are not necessarily an
indication of the risk associated with investing in those investments. A summary
of the inputs used to value the Fund's investments as of October 31, 2014, is
included with the Fund's Portfolio of Investments.
B. SECURITIES TRANSACTIONS AND INVESTMENT INCOME:
Securities transactions are recorded as of the trade date. Realized gains and
losses from securities transactions are recorded on the identified cost basis.
Interest income is recorded daily on the accrual basis. Amortization of premiums
and accretion of discounts are recorded using the effective interest method.
The Fund invests in certain lower credit quality securitized assets (for
example, asset-backed securities, collateralized mortgage obligations and
commercial mortgage-backed securities), as well as interest-only securities,
that have contractual cash flows. For these securities, if there is a change in
the estimated cash flows, based on an evaluation of current information, then
the estimated yield is adjusted. Additionally, if the evaluation of current
information indicates a permanent impairment of the security, the cost basis of
the security is written down and a loss is recognized. Debt obligations may be
placed on non-accrual status, and related interest income may be reduced by
ceasing current accruals and amortization/accretion and writing off interest
receivables when the collection of all or a portion of interest has become
doubtful based on consistently applied procedures. A debt obligation is removed
from non-accrual status when the issuer resumes interest payments or when
collectability of interest is reasonably assured.
Securities purchased on a when-issued, delayed-delivery or forward purchase
commitment basis may have extended settlement periods. The value of the security
so purchased is subject to market fluctuations during this period. The Fund
maintains liquid assets with a current value at least equal to the amount of its
when-issued, delayed-delivery or forward purchase commitments until payment is
made. At October 31, 2014, the Fund had no when-issued, delayed-delivery or
forward purchase commitments.
C. RESTRICTED SECURITIES:
The Fund invests in restricted securities, which are securities that may not be
offered for public sale without first being registered under the 1933 Act. Prior
to registration, restricted securities may only be resold in transactions exempt
from registration under Rule 144A under the 1933 Act, normally to qualified
institutional buyers. As of October 31, 2014, the Fund held restricted
securities as shown in the following table that the Sub-Advisor has deemed
illiquid pursuant to procedures adopted by the Fund's Board of Trustees.
Although market instability can result in periods of increased overall market
illiquidity, liquidity for each security is determined based on
security-specific factors and assumptions, which require subjective judgment.
The Fund does not have the right to demand that such securities be registered.
These securities are valued according to the valuation procedures as stated in
the Portfolio Valuation note (Note 2A) and are not expressed as a discount to
the carrying value of a comparable unrestricted security. There are no
unrestricted securities with the same maturity dates and yields for these
issuers.
Page 22
--------------------------------------------------------------------------------
NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
% OF
ACQUISITION PRINCIPAL CARRYING NET
SECURITY DATE VALUE/SHARES PRICE COST VALUE ASSETS
------------------------------------------------------------------------------------------------------------------------
Banc of America Large Loan, Inc.
Series 2005-MIB1, Class L, 3.15%, 03/15/22 06/26/06 $ 1,548,035 $ 5.03 $ 312,657 $ 77,897 0.06%
Preferred Term Securities XXV, Ltd.
Zero Coupon, 06/22/37 03/27/07 $ 5,750,000 0.00* -- 575 0.00**
Preferred Term Securities XXVI, Ltd.
Subordinated Note, Zero Coupon, 09/22/37 06/06/07 $ 2,500,000 0.00* -- 250 0.00**
Soloso CDO, Ltd., Series 2005-1 04/24/06 4,000 10.00 -- 40,000 0.03
---------- --------- ----------
$ 312,657 $ 118,722 0.09%
========== ========= ==========
* Amount is less than $0.01.
** Amount is less than 0.01%.
D. INTEREST-ONLY SECURITIES:
An interest-only security ("IO Security") is the interest-only portion of a
mortgage-backed security that receives some or all of the interest portion of
the underlying mortgage-backed security and little or no principal. A reference
principal value called a notional value is used to calculate the amount of
interest due to the IO Security. IO Securities are sold at a deep discount to
their notional principal amount. Generally speaking, when interest rates are
falling and prepayment rates are increasing, the value of an IO Security will
fall. Conversely, when interest rates are rising and prepayment rates are
decreasing, generally the value of an IO Security will rise. These securities,
if any, are identified on the Portfolio of Investments.
E. COLLATERALIZED DEBT OBLIGATIONS:
A collateralized debt obligation ("CDO") is an asset-backed security whose
underlying collateral is typically a portfolio of bonds or bank loans. Where the
underlying collateral is a portfolio of bonds, a CDO is referred to as a
collateralized bond obligation ("CBO"). Where the underlying collateral is a
portfolio of bank loans, a CDO is referred to as a collateralized loan
obligation ("CLO"). Investors in CDOs bear the credit risk of the underlying
collateral. Multiple tranches of securities are issued by the CDO, offering
investors various maturity and credit risk characteristics. Tranches are
categorized as senior, mezzanine, and subordinated/equity, according to their
degree of risk. If there are defaults or the CDO's collateral otherwise
underperforms, scheduled payments to senior tranches take precedence over those
of mezzanine tranches, and scheduled payments to mezzanine tranches take
precedence over those to subordinated/equity tranches. CDOs, similar to other
asset-backed securities, are subject to prepayment risk.
F. FORWARD FOREIGN CURRENCY CONTRACTS:
The Fund is subject to foreign currency risk in the normal course of pursuing
its investment objectives. Forward foreign currency contracts are agreements to
exchange one currency for another at a future date and at a specified price. The
Fund uses forward foreign currency contracts to facilitate transactions in
foreign securities and to manage the Fund's foreign currency exposure. These
contracts are valued daily, and the Fund's net equity therein, representing
unrealized gain or loss on the contracts as measured by the difference between
the forward foreign exchange rates at the dates of entry into the contracts and
the forward rates at the reporting date, is included in "Unrealized appreciation
(depreciation) on forward foreign currency contracts" on the Statement of Assets
and Liabilities. When the forward contract is closed, the Fund records a
realized gain or loss equal to the difference between the proceeds from (or the
cost of) the closing transaction and the Fund's basis in the contract. This
realized gain or loss is included in "Net realized gain (loss) on forward
foreign currency contracts" on the Statement of Operations. Risks arise from the
possible inability of counterparties to meet the terms of their contracts and
from movement in currency and securities values and interest rates. Due to the
risks, the Fund could incur losses in excess of the net unrealized value shown
on the Schedule of Forward Foreign Currency Contracts.
G. FOREIGN CURRENCY:
The books and records of the Fund are maintained in U.S. dollars. Foreign
currencies, investments and other assets and liabilities are translated into
U.S. dollars at the exchange rates prevailing at the end of the period.
Purchases and sales of investments and items of income and expense are
translated on the respective dates of such transactions. Unrealized gains and
losses on assets and liabilities, other than investments in securities, which
result from changes in foreign currency exchange rates have been included in
"Net change in unrealized appreciation (depreciation) on foreign currency
translation" on the Statement of Operations. Unrealized gains and losses on
investments in securities which result from changes in foreign exchange rates
are included with fluctuations arising from changes in market price and are
shown in "Net change in unrealized appreciation (depreciation) on investments"
on the Statement of Operations. Net realized foreign currency gains and losses
include the effect of changes in exchange rates between trade date and
settlement date on investment security transactions, foreign currency
transactions and interest and dividends received. The portion of foreign
currency gains and losses related to fluctuation in exchange rates between the
initial purchase trade date and subsequent sale trade date is included in "Net
realized gain (loss) on foreign currency transactions" on the Statement of
Operations.
Page 23
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
H. DIVIDENDS AND DISTRIBUTIONS TO SHAREHOLDERS:
The Fund will distribute to holders of its Common Shares monthly dividends of
all or a portion of its net income after the payment of interest and dividends
in connection with leverage, if any. Distributions will automatically be
reinvested into additional Common Shares pursuant to the Fund's Dividend
Reinvestment Plan unless cash distributions are elected by the shareholder.
Distributions from income and capital gains are determined in accordance with
income tax regulations, which may differ from U.S. GAAP. Certain capital
accounts in the financial statements are periodically adjusted for permanent
differences in order to reflect their tax character. These permanent differences
are primarily due to the varying treatment of income and gain/loss on portfolio
securities held by the Fund and have no impact on net assets or NAV per share.
Temporary differences, which arise from recognizing certain items of income,
expense and gain/loss in different periods for financial statement and tax
purposes, will reverse at some point in the future. Permanent differences
incurred during the fiscal year ended October 31, 2014, primarily as a result of
differing book/tax treatment on recognition of amortization/accretion on
portfolio holdings, have been reclassified at year end to reflect an increase in
accumulated net investment income (loss) of $372,999, an increase in accumulated
net realized gain (loss) on investments of $3,544,423 and a decrease to paid-in
capital of $3,917,422. Net assets were not affected by this reclassification.
The tax character of distributions paid during the fiscal year ended October 31,
2014, and October 31, 2013, was as follows:
Distributions paid from: 2014 2013
Ordinary income.................................. $ 10,063,829 $ 5,633,114
Capital gain..................................... -- --
Return of capital................................ 2,116,942 6,652,538
As of October 31, 2014, the distributable earnings and net assets on a tax basis
were as follows:
Undistributed ordinary income.................... $ --
Undistributed capital gains...................... --
--------------
Total undistributed earnings..................... --
Accumulated capital and other losses............. (34,094,115)
Net unrealized appreciation (depreciation)....... (14,412,299)
--------------
Total accumulated earnings (losses).............. (48,506,414)
Other............................................ --
Paid-in capital.................................. 189,243,283
--------------
Net assets....................................... $ 140,736,869
==============
I. INCOME TAXES:
The Fund intends to continue to qualify as a regulated investment company by
complying with the requirements under Subchapter M of the Internal Revenue Code
of 1986, as amended, which includes distributing substantially all of its net
investment income and net realized gains to shareholders. Accordingly, no
provision has been made for federal or state income taxes. However, due to the
timing and amount of distributions, the Fund may be subject to an excise tax of
4% of the amount by which approximately 98% of the Fund's taxable income exceeds
the distributions from such taxable income for the calendar year.
Under the Regulated Investment Company Modernization Act of 2010 (the "Act"),
net capital losses arising in taxable years after December 22, 2010, may be
carried forward indefinitely, and their character is retained as short-term
and/or long-term losses. Previously, net capital losses were carried forward
eight years and treated as short-term losses. As a transition rule, the Act
requires that post-enactment net capital losses be used before pre-enactment net
capital losses. At October 31, 2014, for federal income tax purposes, the Fund
had capital loss carryforwards available that are shown in the following table,
to the extent provided by regulations, to offset future capital gains through
the years indicated. To the extent that these loss carryforwards are used to
offset future capital gains, it is probable that the capital gains offset will
not be distributed to Fund shareholders.
CAPITAL LOSS CAPITAL LOSS CAPITAL LOSS
AVAILABLE AVAILABLE AVAILABLE POST EFFECTIVE - TOTAL CAPITAL
THROUGH 2017 THROUGH 2018 THROUGH 2019 NO EXPIRATION LOSS AVAILABLE
-------------- -------------- -------------- ---------------- ---------------
$ 5,621,803 $ 15,342,938 $ 7,053,888 $ 6,075,486 $ 34,094,115
Of these losses, $27,984,014 are subject to loss limitation resulting from
reorganization activity. These limitations generally reduce the utilization of
these losses to a maximum of $4,318,194 per year.
The Fund is subject to certain limitations under the U.S. tax rules on the use
of capital loss carryforwards and net unrealized built-in losses. These
limitations apply when there has been a 50% change in ownership.
Page 24
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
The Fund is subject to accounting standards that establish a minimum threshold
for recognizing, and a system for measuring, the benefits of a tax position
taken or expected to be taken in a tax return. Taxable years ending 2011, 2012,
2013 and 2014 remain open to federal and state audit. As of October 31, 2014,
management has evaluated the application of these standards to the Fund and has
determined that no provision for income tax is required in the Fund's financial
statements for uncertain tax positions.
J. EXPENSES:
The Fund will pay all expenses directly related to its operations.
3. INVESTMENT ADVISORY FEE, AFFILIATED TRANSACTIONS AND OTHER FEE ARRANGEMENTS
First Trust, the investment advisor to the Fund, is a limited partnership with
one limited partner, Grace Partners of DuPage L.P., and one general partner, The
Charger Corporation. The Charger Corporation is an Illinois corporation
controlled by James A. Bowen, Chief Executive Officer of First Trust. First
Trust is responsible for the ongoing monitoring of the Fund's investment
portfolio, managing the Fund's business affairs and providing certain
administrative services necessary for the management of the Fund. For these
investment management services, First Trust is entitled to a monthly fee
calculated at an annual rate of 0.90% of the Fund's Managed Assets. First Trust
also provides fund reporting services to the Fund for a flat annual fee in the
amount of $9,250.
Brookfield serves as the Fund's sub-advisor and manages the Fund's portfolio
subject to First Trust's supervision. The Sub-Advisor receives a portfolio
management fee at an annual rate of 0.45% of Managed Assets that is paid by
First Trust from its investment advisory fee.
BNY Mellon Investment Servicing (US) Inc. ("BNYM IS") serves as the Fund's
administrator, fund accountant and transfer agent in accordance with certain fee
arrangements. As administrator and fund accountant, BNYM IS is responsible for
providing certain administrative and accounting services to the Fund, including
maintaining the Fund's books of account, records of the Fund's securities
transactions, and certain other books and records. As transfer agent, BNYM IS is
responsible for maintaining shareholder records for the Fund. The Bank of New
York Mellon ("BNYM") serves as the Fund's custodian in accordance with certain
fee arrangements. As custodian, BNYM is responsible for custody of the Fund's
assets.
Each Trustee who is not an officer or employee of First Trust, any sub-advisor
or any of their affiliates ("Independent Trustees") is paid a fixed annual
retainer that is allocated pro rata among each fund in the First Trust Fund
Complex based on net assets. Each Independent Trustee is also paid an annual per
fund fee that varies based on whether the fund is a closed-end or other actively
managed fund, or is an index fund.
Additionally, the Lead Independent Trustee and the Chairmen of the Audit
Committee, Nominating and Governance Committee and Valuation Committee are paid
annual fees to serve in such capacities, with such compensation allocated pro
rata among each fund in the First Trust Fund Complex based on net assets.
Trustees are reimbursed for travel and out-of-pocket expenses in connection with
all meetings. The Lead Independent Trustee and Committee Chairmen rotate every
three years. The officers and "Interested" Trustee receive no compensation from
the Trust for acting in such capacities.
4. PURCHASES AND SALES OF SECURITIES
The cost of purchases and proceeds from sales of securities, excluding
short-term investments, for the year ended October 31, 2014, were $59,911,464
and $55,366,448, respectively.
5. DERIVATIVES TRANSACTIONS
The following table presents the type of derivative held by the Fund at October
31, 2014, the primary underlying risk exposure and the location of these
instruments as presented on the Statement of Assets and Liabilities.
ASSET DERIVATIVES LIABILITY DERIVATIVES
-------------------------------------- --------------------------------------
DERIVATIVE STATEMENT OF ASSETS AND STATEMENT OF ASSETS AND
INSTRUMENT RISK EXPOSURE LIABILITIES LOCATION FAIR VALUE LIABILITIES LOCATION FAIR VALUE
------------------ --------------- -------------------------- ---------- -------------------------- ----------
Unrealized appreciation on Unrealized depreciation on
Forward foreign forward foreign currency forward foreign currency
currency contracts Currency Risk contracts $ 237,190 contracts $ --
The following table presents the amount of net realized gain (loss) and change
in net unrealized appreciation (depreciation) recognized for the year ended
October 31, 2014, on derivative instruments, as well as the primary underlying
risk exposure associated with each instrument.
STATEMENT OF OPERATIONS LOCATION
-------------------------------------------------------------------------------
CURRENCY RISK EXPOSURE
Net realized gain (loss) on forward foreign currency contracts $ 103,606
Net change in unrealized appreciation (depreciation) on forward
foreign currency contracts 183,673
Page 25
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NOTES TO FINANCIAL STATEMENTS (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014
During the year ended October 31, 2014, the amount of notional values of forward
foreign currency contracts opened and closed were $50,671,392 and $32,139,297,
respectively.
The Fund does not have the right to offset financial assets and financial
liabilities related to forward foreign currency contracts on the Statement of
Assets and Liabilities.
6. BORROWINGS
The Fund entered into a committed facility agreement with BNP Paribas Prime
Brokerage Inc. ("BNP") that has a maximum commitment amount of $66,000,000.
Absent certain events of default or failure to maintain certain collateral
requirements, BNP may not terminate the committed facility agreement except upon
180 calendar days' prior notice. Effective July 24, 2013, $13,850,000 of the
commitment was converted to fixed-rate financing of 2.79% for a seven-year
period. The borrowing rate on the floating rate financing amount is equal to
1-month LIBOR plus 70 basis points. Under the facility, the Fund pays a
commitment fee of 0.80% on the undrawn amount of such facility.
The average amount outstanding for the year ended October 31, 2014 was
$56,811,233, with a weighted average interest rate of 1.33%. As of October 31,
2014, the Fund had outstanding borrowings of $58,850,000 under this committed
facility agreement on the floating rate financing amount, the high and low
annual interest rates for the year ended October 31, 2014 were 0.87% and 0.85%,
respectively. The weighted average interest rate at October 31, 2014 was 1.31%.
7. COMMON SHARE OFFERINGS
On June 8, 2012, the Fund, Advisor and Sub-Advisor entered into a sales
agreement with JonesTrading Institutional Services, LLC ("JonesTrading") whereby
the Fund may offer and sell up to 1,000,000 Common Shares from time to time
through JonesTrading as agent for the offer and sale of the Common Shares. Sales
of Common Shares pursuant to the sales agreement may be made in negotiated
transactions or transactions that are deemed to be "at the market" as defined in
Rule 415 under the 1933 Act, including sales made directly on the NYSE or sales
made through a market maker other than on an exchange, at an offering price
equal to or in excess of the net asset value per share of the Fund's Common
Shares at the time such Common Shares are initially sold. The Fund used the net
proceeds from the sale of the Common Shares in accordance with its investment
objectives and policies. Sales of Common Shares made under the sales agreement
will be made pursuant to a "shelf" registration statement on Form N-2 (the
"Registration Statement") that will require the Fund to obtain effectiveness
from the SEC on an annual basis. The Registration Statement has not been
effective since February 2013 and therefore Common Shares have not been offered
under the sales agreement since that time. Any future sales of Common Shares
under the sales agreement will be made pursuant to an effective Registration
Statement. For the year ended October 31, 2013, transactions related to
offerings under such sales agreement were as follows:
COMMON NET PROCEEDS
SHARES NET PROCEEDS NET ASSET VALUE RECEIVED IN
SOLD RECEIVED OF SHARES SOLD EXCESS OF NET ASSET VALUE
---------- -------------- --------------- -------------------------
6,453 $ 112,291 $ 109,427 $ 2,864
8. INDEMNIFICATION
The Fund has a variety of indemnification obligations under contracts with its
service providers. The Fund's maximum exposure under these arrangements is
unknown. However, the Fund has not had prior claims or losses pursuant to these
contracts and expects the risk of loss to be remote.
9. LITIGATION
On February 14, 2014, the Fund settled the previously-reported class action
lawsuit filed by Lehman Brothers Special Finance, Inc. in the United States
Bankruptcy Court for the Southern District of New York (the "Class Litigation").
The settlement fully disposes of all outstanding claims asserted against the
Fund and the Fund is no longer a party to the Class Litigation. The settlement
is included in "Net realized gain (loss) on investments" on the Statement of
Operations.
10. SUBSEQUENT EVENTS
Management has evaluated the impact of all subsequent events to the Fund through
the date the financial statements were issued, and has determined that there
were the following subsequent events:
On November 20, 2014, the Fund declared a dividend of $0.1200 per share to
Common Shareholders of record on December 3, 2014, payable December 10, 2014.
Page 26
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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
--------------------------------------------------------------------------------
TO THE BOARD OF TRUSTEES AND SHAREHOLDERS OF FIRST TRUST STRATEGIC HIGH INCOME
FUND II:
We have audited the accompanying statement of assets and liabilities of First
Trust Strategic High Income Fund II (the "Fund"), including the portfolio of
investments, as of October 31, 2014, and the related statements of operations
and cash flows for the year then ended, the statements of changes in net assets
for each of the two years in the period then ended, and the financial highlights
for each of the five years in the period then ended. These financial statements
and financial highlights are the responsibility of the Fund's management. Our
responsibility is to express an opinion on these financial statements and
financial highlights based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audits to obtain reasonable assurance about whether the
financial statements and financial highlights are free of material misstatement.
The Fund is not required to have, nor were we engaged to perform, an audit of
its internal control over financial reporting. Our audits included consideration
of internal control over financial reporting as a basis for designing audit
procedures that are appropriate in the circumstances, but not for the purpose of
expressing an opinion on the effectiveness of the Fund's internal control over
financial reporting. Accordingly, we express no such opinion. An audit also
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, as well as evaluating the
overall financial statement presentation. Our procedures included confirmation
of securities owned as of October 31, 2014 by correspondence with the Fund's
custodian, brokers, and agent banks; where replies were not received, we
performed other auditing procedures. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements and financial highlights referred to
above present fairly, in all material respects, the financial position of First
Trust Strategic High Income Fund II as of October 31, 2014, the results of its
operations and its cash flows for the year then ended, the changes in its net
assets for each of the two years in the period then ended, and the financial
highlights for each of the five years in the period then ended, in conformity
with accounting principles generally accepted in the United States of America.
/s/ Deloitte & Touche LLP
Chicago, Illinois
December 23, 2014
Page 27
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ADDITIONAL INFORMATION
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
DIVIDEND REINVESTMENT PLAN
If your Common Shares are registered directly with the Fund or if you hold your
Common Shares with a brokerage firm that participates in the Fund's Dividend
Reinvestment Plan (the "Plan"), unless you elect, by written notice to the Fund,
to receive cash distributions, all dividends, including any capital gain
distributions, on your Common Shares will be automatically reinvested by BNY
Mellon Investment Servicing (US) Inc. (the "Plan Agent"), in additional Common
Shares under the Plan. If you elect to receive cash distributions, you will
receive all distributions in cash paid by check mailed directly to you by the
Plan Agent, as the dividend paying agent.
If you decide to participate in the Plan, the number of Common Shares you will
receive will be determined as follows:
(1) If Common Shares are trading at or above net asset value ("NAV") at
the time of valuation, the Fund will issue new shares at a price
equal to the greater of (i) NAV per Common Share on that date or
(ii) 95% of the market price on that date.
(2) If Common Shares are trading below NAV at the time of valuation, the
Plan Agent will receive the dividend or distribution in cash and
will purchase Common Shares in the open market, on the NYSE or
elsewhere, for the participants' accounts. It is possible that the
market price for the Common Shares may increase before the Plan
Agent has completed its purchases. Therefore, the average purchase
price per share paid by the Plan Agent may exceed the market price
at the time of valuation, resulting in the purchase of fewer shares
than if the dividend or distribution had been paid in Common Shares
issued by the Fund. The Plan Agent will use all dividends and
distributions received in cash to purchase Common Shares in the open
market within 30 days of the valuation date except where temporary
curtailment or suspension of purchases is necessary to comply with
federal securities laws. Interest will not be paid on any uninvested
cash payments.
You may elect to opt-out of or withdraw from the Plan at any time by giving
written notice to the Plan Agent, or by telephone at (866) 340-1104, in
accordance with such reasonable requirements as the Plan Agent and the Fund may
agree upon. If you withdraw or the Plan is terminated, you will receive a
certificate for each whole share in your account under the Plan, and you will
receive a cash payment for any fraction of a share in your account. If you wish,
the Plan Agent will sell your shares and send you the proceeds, minus brokerage
commissions.
The Plan Agent maintains all Common Shareholders' accounts in the Plan and gives
written confirmation of all transactions in the accounts, including information
you may need for tax records. Common Shares in your account will be held by the
Plan Agent in non-certificated form. The Plan Agent will forward to each
participant any proxy solicitation material and will vote any shares so held
only in accordance with proxies returned to the Fund. Any proxy you receive will
include all Common Shares you have received under the Plan.
There is no brokerage charge for reinvestment of your dividends or distributions
in Common Shares. However, all participants will pay a pro rata share of
brokerage commissions incurred by the Plan Agent when it makes open market
purchases.
Automatically reinvesting dividends and distributions does not mean that you do
not have to pay income taxes due upon receiving dividends and distributions.
Capital gains and income are realized although cash is not received by you.
Consult your financial advisor for more information.
If you hold your Common Shares with a brokerage firm that does not participate
in the Plan, you will not be able to participate in the Plan and any dividend
reinvestment may be effected on different terms than those described above.
The Fund reserves the right to amend or terminate the Plan if in the judgment of
the Board of Trustees the change is warranted. There is no direct service charge
to participants in the Plan; however, the Fund reserves the right to amend the
Plan to include a service charge payable by the participants. Additional
information about the Plan may be obtained by writing BNY Mellon Investment
Servicing (US) Inc., 301 Bellevue Parkway, Wilmington, Delaware 19809.
--------------------------------------------------------------------------------
PROXY VOTING POLICIES AND PROCEDURES
A description of the policies and procedures that the Fund uses to determine how
to vote proxies and information on how the Fund voted proxies relating to
portfolio investments during the most recent 12-month period ended June 30 is
available (1) without charge, upon request, by calling (800) 988-5891; (2) on
the Fund's website located at http://www.ftportfolios.com; and (3) on the
Securities and Exchange Commission's ("SEC") website located at
http://www.sec.gov.
Page 28
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ADDITIONAL INFORMATION (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
PORTFOLIO HOLDINGS
The Fund files its complete schedule of portfolio holdings with the SEC for the
first and third quarters of each fiscal year on Form N-Q. The Fund's Forms N-Q
are available (1) by calling (800) 988-5891; (2) on the Fund's website located
at http://www.ftportfolios.com; (3) on the SEC's website at http://www.sec.gov;
and (4) for review and copying at the SEC's Public Reference Room ("PRR") in
Washington, DC. Information regarding the operation of the PRR may be obtained
by calling (800) SEC-0330.
NYSE CERTIFICATION INFORMATION
In accordance with Section 303A-12 of the New York Stock Exchange ("NYSE")
Listed Company Manual, the Fund's President has certified to the NYSE that, as
of April 28, 2014, he was not aware of any violation by the Fund of NYSE
corporate governance listing standards. In addition, the Fund's reports to the
SEC on Forms N-CSR, N-CSRS and N-Q contain certifications by the Fund's
principal executive officer and principal financial officer that relate to the
Fund's public disclosure in such reports and are required by Rule 30a-2 under
the 1940 Act.
SUBMISSION OF MATTERS TO A VOTE OF SHAREHOLDERS
The Joint Annual Meeting of Shareholders of the Common Shares of Macquarie/First
Trust Global Infrastructure/Utilities Dividend & Income Fund, First Trust Energy
Income and Growth Fund, First Trust Enhanced Equity Income Fund, First
Trust/Aberdeen Global Opportunity Income Fund, First Trust Mortgage Income Fund,
First Trust Strategic High Income Fund II, First Trust/Aberdeen Emerging
Opportunity Fund, First Trust Specialty Finance and Financial Opportunities
Fund, First Trust Dividend and Income Fund (formerly First Trust Active Dividend
Income Fund), First Trust High Income Long/Short Fund and First Trust Energy
Infrastructure Fund, was held on April 23, 2014 (the "Annual Meeting"). At the
Annual Meeting, Trustee Robert F. Keith was elected by the Common Shareholders
of the First Trust Strategic High Income Fund II as the Class II Trustee for a
three-year term expiring at the Fund's annual meeting of shareholders in 2017.
The number of votes cast in favor of Mr. Keith was 7,274,840, the number of
votes against was 125,717 and the number of broker non-votes was 1,058,312.
James A. Bowen, Niel B. Nielson, Richard E. Erickson, and Thomas R. Kadlec are
the other current and continuing Trustees.
TAX INFORMATION
Of the ordinary income (including short-term capital gain) distributions made by
the Fund during the year ended October 31, 2014, none qualify for the corporate
dividends received deduction available to corporate shareholders or as qualified
dividend income.
RISK CONSIDERATIONS
Risks are inherent in all investing. The following summarizes some of the risks
that should be considered for the Fund. For additional information about the
risks associated with investing in the Fund, please see the Fund's prospectus
and statement of additional information, as well as other Fund regulatory
filings.
INVESTMENT AND MARKET RISK: An investment in the Fund's Common Shares is subject
to investment risk, including the possible loss of the entire principal
invested. An investment in Common Shares represents an indirect investment in
the securities owned by the Fund. The value of these securities, like other
market investments, may move up or down, sometimes rapidly and unpredictably.
Common Shares at any point in time may be worth less than the original
investment, even after taking into account the reinvestment of Fund dividends
and distributions. Security prices can fluctuate for several reasons including
the general condition of the securities markets, or when political or economic
events affecting the issuers occur, including the risk that borrowers do not pay
their mortgages. When the Advisor or Sub-Advisor determines that it is
temporarily unable to follow the Fund's investment strategy or that it is
impractical to do so (such as when a market disruption event has occurred and
trading in the securities is extremely limited or absent), the Advisor or
Sub-Advisor may take temporary defensive positions.
RESIDENTIAL MORTGAGE-BACKED SECURITIES RISK: MBS's may have less potential for
capital appreciation than comparable fixed-income securities due to the
likelihood of increased prepayments of mortgages as interest rates decline. If
the Fund buys MBS's at a premium, mortgage foreclosures and prepayments of
principal by mortgagors (which usually may be made at any time without penalty)
may result in some loss of the Fund's principal investment to the extent of the
premium paid. Alternatively, in a rising interest rate environment, the value of
MBS's may be adversely affected when payments on underlying mortgages do not
occur as anticipated, resulting in the extension of the security's effective
maturity and the related increase in interest rate sensitivity of a longer-term
instrument. The value of MBS's may also change due to shifts in the market's
perception of issuers and regulatory or tax changes adversely affecting the
markets as a whole. In addition, MBS's are subject to the credit risk associated
with the performance of the underlying mortgage properties. In certain
instances,
Page 29
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ADDITIONAL INFORMATION (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
third-party guarantees or other forms of credit support can reduce the credit
risk. The Fund may also invest in MBS's which are interest-only securities
("IO") and principal-only ("PO") securities. Generally speaking, when interest
rates are falling and prepayment rates are increasing, the value of a PO
security will rise and the value of an IO security will fall. Conversely, when
interest rates are rising and prepayment rates are decreasing, generally the
value of a PO will fall and the value of an IO security will rise. In addition
to the foregoing, residential MBS's are subject to additional risks, including,
but not limited to: (i) the United States residential mortgage market has
recently encountered various difficulties and changed economic conditions. In
addition, recently, residential property values in various states have declined
or remained stable after extended periods of appreciation. A continued decline
or an extended flattening in those values may result in additional increases in
delinquencies and losses on residential mortgage loans generally; (ii) if a
residential mortgage obligation is secured by a junior lien it will be
subordinate to the rights of the mortgagees or beneficiaries under the related
senior mortgages or deeds of trust; and (iii) depending on the length of a
residential mortgage obligation underling a residential MBS, unscheduled or
early payments of principal and interest may shorten the security's effective
maturity and prevailing interest rates may be higher or lower than the current
yield of the Fund's portfolio at the time the Fund receives the payments for
reinvestment.
VALUE INVESTING RISK: The Sub-Advisor focuses the Fund's investments on
securities that they believe are undervalued or inexpensive relative to other
investments. Such securities are subject to the risk of misestimating certain
fundamental factors. Disciplined adherence to a "value" investment mandate
during periods in which that style is "out of favor" can result in significant
underperformance relative to overall market indices and other managed investment
vehicles that pursue growth style investments and/or flexible style mandates.
BELOW-INVESTMENT GRADE SECURITIES RISK: The Fund invests in below-investment
grade securities. The market values for high-yield securities tend to be very
volatile, and these securities are less liquid than investment grade debt
securities. For these reasons, an investment in the Fund is subject to the
following specific risks: (a) increased price sensitivity to changing interest
rates and to a deteriorating economic environment; (b) greater risk of loss due
to default or declining credit quality; (c) adverse issuer specific events are
more likely to render the issuer unable to make interest and/or principal
payments; and (d) a negative perception of the high-yield market may depress the
price and liquidity of high-yield securities.
DISTRESSED SECURITIES RISK: The Fund may invest in securities issued by
companies in a bankruptcy reorganization proceeding, subject to some other form
of a public or private debt restructuring or otherwise in default or in
significant risk of default in the payment of interest or repayment of principal
or trading at prices substantially below other below-investment grade debt
securities of companies in similar industries. Distressed securities frequently
do not produce income while they are outstanding. The Fund may be required to
incur certain extraordinary expenses in order to protect and recover its
investment. Therefore, to the extent the Sub-Advisor seeks capital appreciation
through investment in distressed securities; the ability to achieve current
income may be diminished.
ECONOMIC CONDITIONS RISK: Adverse changes in economic conditions are more likely
to lead to a weakened capacity of a high-yield issuer to make principal payments
and interest payments than an investment grade issuer. An economic downturn
could severely affect the ability of highly leveraged issuers to service their
debt obligations or to repay their obligations upon maturity. Under adverse
market or economic conditions, the secondary market for high-yield securities
could contract further, independent of any specific adverse changes in the
condition of a particular issuer and these securities may become illiquid. As a
result, the Sub-Advisor could find it more difficult to sell these securities or
may be able to sell the securities only at prices lower than if such securities
were widely traded.
FIXED-INCOME SECURITIES RISK: Debt securities, including high yield securities,
are subject to certain risks, including: (i) issuer risk, which is the risk that
the value of fixed-income securities may decline for a number of reasons which
directly relate to the issuer, such as management performance, financial
leverage and reduced demand for the issuer's goods and services or, in the case
of asset-backed issuers, a decline in the value and/or cash flows of the
underlying assets; (ii) reinvestment risk, which is the risk that income from
the Fund's portfolio will decline if the proceeds from matured, traded or called
bonds are reinvested at market interest rates that are below the portfolio's
current earnings rate; (iii) prepayment risk, which is the risk that during
periods of declining interest rates, the issuer of a security may exercise its
option to prepay principal earlier than scheduled, forcing the reinvestment in
lower yielding securities; and (iv) credit risk, which is the risk that a
security in the Fund's portfolio will decline in price or the issuer fails to
make interest payments when due because the issuer of the security experiences a
decline in its financial status.
INTEREST RATE RISK: The Fund's portfolio is also subject to interest rate risk.
Interest rate risk is the risk that fixed-income securities will decline in
value because of changes in market interest rates. Investments in debt
securities with long-term maturities may experience significant price declines
if long-term interest rates increase.
LEVERAGE RISK: The Fund may borrow an amount up to 33-1/3% (or such other
percentage as permitted by law) of its assets (including the amount borrowed)
less liabilities other than borrowings. The Fund may use leverage for investment
purposes and to meet cash requirements. Its leveraged capital structure creates
special risks not associated with unleveraged funds having similar investment
Page 30
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ADDITIONAL INFORMATION (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
objectives and policies. These include the possibility of higher volatility of
the NAV of the Fund. The Fund previously leveraged its assets through the use of
reverse repurchase agreements. Reverse repurchase agreements are subject to the
risks that the market value of the securities sold by the Fund may decline below
the price of the securities the Fund is obligated to repurchase, and that the
securities may not be returned to the Fund. The Fund may from time to time
consider changing the amount of the leverage in response to actual or
anticipated changes in interest rates or the value of the Fund's investment
portfolio. There can be no assurance that the leverage strategies will be
successful.
FOREIGN SECURITIES RISK: The Fund may invest in securities (equity or debt) of
foreign issuers. Investing in securities of foreign issuers, which are generally
denominated in foreign currencies, may involve certain risks not typically
associated with investing in securities of U.S. issuers. These risks include:
(i) there may be less publicly available information about foreign issuers or
markets due to less rigorous disclosure or accounting standards or regulatory
practices; (ii) foreign markets may be smaller, less liquid and more volatile
than the U.S. market; (iii) potential adverse effects of fluctuations in
currency exchange rates or controls on the value of the Fund's investments; (iv)
the economies of foreign countries may grow at slower rates than expected or may
experience a downturn or recession; (v) the impact of economic, political,
social or diplomatic events; (vi) certain foreign countries may impose
restrictions on the ability of foreign issuers to make payments of principal and
interest to investors located in the United States due to blockage of foreign
currency exchanges or otherwise; and (vii) withholding and other foreign taxes
may decrease the Fund's return. These risks may be more pronounced to the extent
that the Fund invests a significant amount of its assets in companies located in
one region and to the extent that the Fund invests in securities of issuers in
emerging markets.
ADVISORY AND SUB-ADVISORY AGREEMENTS
BOARD CONSIDERATIONS REGARDING CONTINUATION OF INVESTMENT MANAGEMENT AND
INVESTMENT SUB-ADVISORY AGREEMENTS
The Board of Trustees of First Trust Strategic High Income Fund II (the "Fund"),
including the Independent Trustees, unanimously approved the continuation of the
Investment Management Agreement (the "Advisory Agreement") between the Fund and
First Trust Advisors L.P. (the "Advisor") and the Investment Sub Advisory
Agreement (the "Sub Advisory Agreement" and together with the Advisory
Agreement, the "Agreements") among the Fund, the Advisor and Brookfield
Investment Management Inc. (the "Sub-Advisor"), at a meeting held on June 8-9,
2014. The Board of Trustees determined that the continuation of the Agreements
is in the best interests of the Fund in light of the extent and quality of the
services provided and such other matters as the Board considered to be relevant
in the exercise of its reasonable business judgment.
To reach this determination, the Board considered its duties under the
Investment Company Act of 1940, as amended (the "1940 Act"), as well as under
the general principles of state law in reviewing and approving advisory
contracts; the requirements of the 1940 Act in such matters; the fiduciary duty
of investment advisors with respect to advisory agreements and compensation; the
standards used by courts in determining whether investment company boards have
fulfilled their duties; and the factors to be considered by the Board in voting
on such agreements. To assist the Board in its evaluation of the Agreements, the
Independent Trustees received a separate report from each of the Advisor and the
Sub-Advisor in advance of the Board meeting responding to a request for
information from counsel to the Independent Trustees. The reports, among other
things, outlined the services provided by the Advisor and the Sub-Advisor
(including the relevant personnel responsible for these services and their
experience); the advisory and sub-advisory fees for the Fund as compared to fees
charged to other clients of the Advisor and the Sub-Advisor and as compared to
fees charged by investment advisors and sub-advisors to comparable funds;
expenses of the Fund as compared to expense ratios of comparable funds; the
nature of expenses incurred in providing services to the Fund and the potential
for economies of scale, if any; financial data on the Advisor and the
Sub-Advisor; any fall out benefits to the Advisor and the Sub-Advisor; and
information on the Advisor's and the Sub-Advisor's compliance programs.
Following receipt of this information, counsel to the Independent Trustees posed
follow-up questions to the Advisor, and the Independent Trustees and their
counsel met separately to discuss the information provided by the Advisor and
the Sub Advisor, including the supplemental responses. The Board applied its
business judgment to determine whether the arrangements between the Fund and the
Advisor and among the Fund, the Advisor and the Sub-Advisor are reasonable
business arrangements from the Fund's perspective as well as from the
perspective of shareholders. The Board considered that shareholders chose to
invest or remain invested in the Fund knowing that the Advisor and the
Sub-Advisor manage the Fund.
In reviewing the Agreements, the Board considered the nature, extent and quality
of services provided by the Advisor and the Sub-Advisor under the Agreements.
The Board considered the Advisor's statements regarding the incremental benefits
associated with the Fund's advisor/sub-advisor management structure. With
respect to the Advisory Agreement, the Board considered that the Advisor is
responsible for the overall management and administration of the Fund and
reviewed the services provided by the Advisor to the Fund, including the
oversight of the Sub-Advisor. The Board noted the compliance program that had
been developed by the Advisor and considered that it
Page 31
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ADDITIONAL INFORMATION (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
includes a robust program for monitoring the Sub-Advisor's compliance with the
1940 Act and the Fund's investment objectives and policies. With respect to the
Sub-Advisory Agreement, the Board noted the background and experience of the
Sub-Advisor's portfolio management team. The Board reviewed the materials
provided by the Sub Advisor and considered the services that the Sub-Advisor
provides to the Fund, including the Sub-Advisor's day-to-day management of the
Fund's investments. In light of the information presented and the considerations
made, the Board concluded that the nature, extent and quality of services
provided to the Fund by the Advisor and the Sub-Advisor under the Agreements
have been and are expected to remain satisfactory and that the Sub-Advisor,
under the oversight of the Advisor, has managed the Fund consistent with its
investment objectives and policies.
The Board considered the advisory and sub-advisory fees paid under the
Agreements. The Board considered the advisory fees charged by the Advisor to
similar funds and other non-fund clients, noting that the Advisor does not
provide advisory services to other funds with investment objectives and policies
similar to the Fund's, but does provide services to certain separately managed
accounts that may have investment objectives and policies similar to the Fund's.
The Board noted that the Advisor charges a lower advisory fee rate to the
separately managed accounts, as well as the Advisor's statement that the nature
of the services provided to the separately managed accounts is not comparable to
those provided to the Fund. The Board considered the sub-advisory fee and how it
relates to the Fund's overall advisory fee structure and noted that the
sub-advisory fee is paid by the Advisor from its advisory fee. The Board also
considered information provided by the Sub-Advisor as to the fees it charges to
other closed-end funds it manages, noting that the sub-advisory fee rate is
lower than the advisory fee rate charged by the Sub-Advisor to the other funds
it manages. In addition, the Board reviewed data prepared by Lipper Inc.
("Lipper"), an independent source, showing the advisory fees and expense ratios
of the Fund as compared to the management fees and expense ratios of an expense
peer group selected by Lipper and similar data from the Advisor for a separate
peer group selected by the Advisor. The Board noted that the Lipper and Advisor
peer groups did not include any overlapping peer funds. The Board discussed with
representatives of the Advisor the limitations in creating a relevant peer group
for the Fund, including that (i) the Fund is unique in its composition, which
makes assembling peers with similar strategies and asset mix difficult; (ii)
peer funds may use different amounts and types of leverage which have different
costs associated with them or may use no leverage; (iii) most peer funds do not
employ an advisor/sub-advisor management structure; and (iv) many of the peer
funds are larger than the Fund, which causes the Fund's fixed expenses to be
higher on a percentage basis as compared to the larger peer funds. The Board
took these limitations into account in considering the peer data. In reviewing
the peer data, the Board noted that the Fund's contractual advisory fee was
equal to the median of the Lipper expense peer group.
The Board also considered performance information for the Fund, noting that the
performance information included the Fund's quarterly performance report, which
is part of the process that the Board has established for monitoring the Fund's
performance and portfolio risk on an ongoing basis. The Board determined that
this process continues to be effective for reviewing the Fund's performance. In
addition to the Board's ongoing review of performance, the Board also received
data prepared by Lipper comparing the Fund's performance to a performance peer
universe selected by Lipper and to two benchmarks. In reviewing the Fund's
performance as compared to the performance of the Lipper performance peer
universe, the Board took into account the limitations described above with
respect to creating a relevant peer group for the Fund. The Board also
considered the Fund's dividend yield as of March 31, 2014 and information
provided by the Advisor on the Fund's leverage, including that leverage was
accretive to the Fund's total return in 2013. In addition, the Board compared
the Fund's premium/discount over the past eight quarters to the average and
median premium/discount of the Advisor peer group over the same period and
considered the factors that may impact a fund's premium/discount.
On the basis of all the information provided on the fees, expenses and
performance of the Fund, the Board concluded that the advisory and sub-advisory
fees were reasonable and appropriate in light of the nature, extent and quality
of services provided by the Advisor and Sub-Advisor under the Agreements.
The Board noted that the Advisor has continued to invest in personnel and
infrastructure and considered whether fee levels reflect any economies of scale
for the benefit of shareholders. The Board determined that due to the Fund's
closed-end structure, the potential for realization of economies of scale as
Fund assets grow was not a material factor to be considered. The Board also
considered the costs of the services provided and profits realized by the
Advisor from serving as investment advisor to the Fund for the twelve months
ended December 31, 2013, as well as product-line profitability data for the same
period, as set forth in the materials provided to the Board. The Board noted the
inherent limitations in the profitability analysis, and concluded that the
Advisor's estimated profitability appeared to be not excessive in light of the
services provided to the Fund. In addition, the Board considered fall-out
benefits described by the Advisor that may be realized from its relationship
with the Fund, including the Advisor's compensation for fund reporting services
pursuant to a separate Fund Reporting Services Agreement.
The Board noted the Sub-Advisor's expenses in providing investment services to
the Fund and considered the Sub-Advisor's statement that it does not expect
economies of scale to be present in connection with its provision of services to
the Fund. The Board considered that the sub advisory fee rate was negotiated at
arm's length between the Advisor and the Sub-Advisor, an unaffiliated third
party. The Board also
Page 32
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ADDITIONAL INFORMATION (CONTINUED)
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FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
considered data provided by the Sub-Advisor with respect to the profitability of
the Sub-Advisory Agreement to the Sub-Advisor. The Board noted the inherent
limitations in the profitability analysis and concluded that the profitability
analysis for the Advisor was more relevant, although the profitability of the
Sub-Advisory Agreement appeared to be not excessive in light of the services
provided to the Fund. The Board noted that the Sub-Advisor does not maintain any
soft-dollar arrangements and that the Sub-Advisor indicated that it does not
anticipate any material fall out benefits from its relationship to the Fund.
Based on all of the information considered and the conclusions reached, the
Board, including the Independent Trustees, unanimously determined that the terms
of the Agreements continue to be fair and reasonable and that the continuation
of the Agreements is in the best interests of the Fund. No single factor was
determinative in the Board's analysis.
Page 33
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BOARD OF TRUSTEES AND OFFICERS
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
NUMBER OF OTHER
PORTFOLIOS IN TRUSTEESHIPS OR
THE FIRST TRUST DIRECTORSHIPS
NAME, ADDRESS, TERM OF OFFICE FUND COMPLEX HELD BY TRUSTEE
DATE OF BIRTH AND AND LENGTH OF PRINCIPAL OCCUPATIONS OVERSEEN BY DURING PAST
POSITION WITH THE FUND SERVICE(2) DURING PAST 5 YEARS TRUSTEE 5 YEARS
------------------------------------------------------------------------------------------------------------------------------------
INDEPENDENT TRUSTEES
------------------------------------------------------------------------------------------------------------------------------------
Richard E. Erickson, Trustee o Indefinite Term Physician; President, Wheaton Orthopedics; 111 None
c/o First Trust Advisors L.P. Limited Partner, Gundersen Real Estate
120 E. Liberty Drive, o Since Inception Limited Partnership; Member,
Suite 400 Sportsmed LLC
Wheaton, IL 60187
D.O.B.: 04/51
Thomas R. Kadlec, Trustee o Indefinite Term President (March 2010 to Present), Senior 111 Director of ADM
c/o First Trust Advisors L.P. Vice President and Chief Financial Officer Investor Services,
120 E. Liberty Drive, o Since Inception (May 2007 to March 2010), ADM Inc., ADM
Suite 400 Investor Services, Inc. (Futures Investor Services
Wheaton, IL 60187 Commission Merchant) International, and
D.O.B.: 11/57 Futures Industry
Association
Robert F. Keith, Trustee o Indefinite Term President (2003 to Present), 111 Director of
c/o First Trust Advisors L.P. Hibs Enterprises (Financial and Trust Company
120 E. Liberty Drive, o Since Inception Management Consulting) of Illinois
Suite 400
Wheaton, IL 60187
D.O.B.: 11/56
Niel B. Nielson, Trustee o Indefinite Term Managing Director and Chief Operating 111 Director of
c/o First Trust Advisors L.P. Officer (January 2015 to Present), Pelita Covenant
120 East Liberty Drive, o Since Inception Harapan Educational Foundation Transport, Inc.
Suite 400 (Educational Products and Services); (May 2003 to
Wheaton, IL 60187 President and Chief Executive Officer May 2014)
D.O.B.: 03/54 (June 2012 to September 2014), Servant
Interactive LLC (Educational Products and
Services); President and Chief Executive
Officer (June 2012 to September 2014), Dew
Learning LLC (Educational Products and
Services); President (June 2002 to
June 2012), Covenant College
------------------------------------------------------------------------------------------------------------------------------------
INTERESTED TRUSTEE
------------------------------------------------------------------------------------------------------------------------------------
James A. Bowen(1), Trustee and o Indefinite Term Chief Executive Officer (December 2010 111 None
Chairman of the Board to Present), President (until December
120 E. Liberty Drive, o Since Inception 2010), First Trust Advisors L.P. and First
Suite 400 Trust Portfolios L.P.; Chairman of the
Wheaton, IL 60187 Board of Directors, BondWave LLC
D.O.B.: 09/55 (Software Development Company/
Investment Advisor) and Stonebridge
Advisors LLC (Investment Advisor)
-----------------------------
(1) Mr. Bowen is deemed an "interested person" of the Fund due to his position
as Chief Executive Officer of First Trust Advisors L.P., investment
advisor of the Trust.
(2) Currently, Richard E. Erickson and Thomas R. Kadlec, as Class II Trustees,
are serving as trustees until the Fund's 2015 annual meeting of
shareholders. James A. Bowen and Niel B. Nielson, as Class III Trustees,
are serving as trustees until the Fund's 2016 annual meeting of
shareholders. Robert F. Keith, as a Class I Trustee, is serving as a
trustee until the Fund's 2017 annual meeting of shareholders.
Page 34
--------------------------------------------------------------------------------
BOARD OF TRUSTEES AND OFFICERS (CONTINUED)
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
NAME, ADDRESS POSITION AND OFFICES TERM OF OFFICE AND PRINCIPAL OCCUPATIONS
AND DATE OF BIRTH WITH FUND LENGTH OF SERVICE DURING PAST 5 YEARS
------------------------------------------------------------------------------------------------------------------------------------
OFFICERS(3)
------------------------------------------------------------------------------------------------------------------------------------
Mark R. Bradley President and Chief o Indefinite Term Chief Operating Officer(December 2010 to Present)
120 E. Liberty Drive, Executive Officer and Chief Financial Officer,First Trust Advisors
Suite 400 o Since January 2012 L.P. and First Trust Portfolios L.P.; Chief Financial
Wheaton, IL 60187 Officer, BondWave LLC (Software Development
D.O.B.: 11/57 Company/Investment Advisor) and Stonebridge
Advisors LLC (Investment Advisor)
James M. Dykas Treasurer, Chief Financial o Indefinite Term Controller (January 2011 to Present),
120 E. Liberty Drive, Officer and Chief Senior Vice President (April 2007 to
Suite 400 Accounting Officer o Since January 2012 Present), First Trust Advisors L.P.
Wheaton, IL 60187 and First Trust Portfolios L.P.
D.O.B.: 01/66
W. Scott Jardine Secretary and Chief o Indefinite Term General Counsel, First Trust Advisors L.P., First
120 E. Liberty Drive, Legal Officer Trust Portfolios L.P.; Secretary and General
Suite 400 o Since Inception Counsel, BondWave LLC (Software Development
Wheaton, IL 60187 Company/Investment Advisor) and Secretary,
D.O.B.: 05/60 Stonebridge Advisors LLC (Investment Advisor)
Daniel J. Lindquist Vice President o Indefinite Term Managing Director (July 2012 to Present), Senior
120 E. Liberty Drive, Vice President (September 2005 to July 2012),
Suite 400 o Since Inception First Trust Advisors L.P. and First Trust
Wheaton, IL 60187 Portfolios L.P.
D.O.B.: 02/70
Kristi A. Maher Chief Compliance Officer o Indefinite Term Deputy General Counsel, First Trust
120 E. Liberty Drive, and Assistant Secretary Advisors L.P. and First Trust Portfolios L.P.
Suite 400 o Chief Compliance
Wheaton, IL 60187 Officer since
D.O.B.: 12/66 January 2011
o Assistant Secretary
since Fund Inception
-----------------------------
(3) The term "officer" means the president, vice president, secretary,
treasurer, controller or any other officer who performs a policy making
function.
Page 35
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PRIVACY POLICY
--------------------------------------------------------------------------------
FIRST TRUST STRATEGIC HIGH INCOME FUND II (FHY)
OCTOBER 31, 2014 (UNAUDITED)
Privacy Policy
First Trust values our relationship with you and considers your privacy an
important priority in maintaining that relationship. We are committed to
protecting the security and confidentiality of your personal information.
Sources of Information
We collect nonpublic personal information about you from the following sources:
o Information we receive from you and your broker-dealer, investment
advisor or financial representative through interviews,
applications, agreements or other forms;
o Information about your transactions with us, our affiliates or
others;
o Information we receive from your inquiries by mail, e-mail or
telephone; and
o Information we collect on our website through the use of "cookies".
For example, we may identify the pages on our website that your
browser requests or visits.
Information Collected
The type of data we collect may include your name, address, social security
number, age, financial status, assets, income, tax information, retirement and
estate plan information, transaction history, account balance, payment history,
investment objectives, marital status, family relationships and other personal
information.
Disclosure of Information
We do not disclose any nonpublic personal information about our customers or
former customers to anyone, except as permitted by law. In addition to using
this information to verify your identity (as required under law), the permitted
uses may also include the disclosure of such information to unaffiliated
companies for the following reasons:
o In order to provide you with products and services and to effect
transactions that you request or authorize, we may disclose your
personal information as described above to unaffiliated financial
service providers and other companies that perform administrative or
other services on our behalf, such as transfer agents, custodians
and trustees, or that assist us in the distribution of investor
materials such as trustees, banks, financial representatives, proxy
services, solicitors and printers.
o We may release information we have about you if you direct us to do
so, if we are compelled by law to do so, or in other legally limited
circumstances (for example to protect your account from fraud).
In addition, in order to alert you to our other financial products and services,
we may share your personal information within First Trust.
Privacy Online
We allow third-party companies, including AddThis (a social media sharing
service), to collect certain anonymous information when you visit our website.
These companies may use non-personally identifiable information during your
visits to this and other websites in order to provide advertisements about goods
and services likely to be of greater interest to you. These companies typically
use a cookie, third party web beacon or pixel tags, to collect this information.
To learn more about this behavioral advertising practice, you can visit
www.networkadvertising.org.
Confidentiality and Security
With regard to our internal security procedures, First Trust restricts access to
your nonpublic personal information to those First Trust employees who need to
know that information to provide products or services to you. We maintain
physical, electronic and procedural safeguards to protect your nonpublic
personal information.
Policy Updates and Inquiries
As required by federal law, we will notify you of our privacy policy annually.
We reserve the right to modify this policy at any time, however, if we do change
it, we will tell you promptly. For questions about our policy, or for additional
copies of this notice, please go to www.ftportfolios.com, or contact us at
1-800-621-1675 (First Trust Portfolios) or 1-800-222-6822 (First Trust
Advisors).
Page 36
FIRST TRUST
INVESTMENT ADVISOR
First Trust Advisors L.P.
120 E. Liberty Drive, Suite 400
Wheaton, IL 60187
INVESTMENT SUB-ADVISOR
Brookfield Investment Management Inc.
Brookfield Place
250 Vesey Street, 15th Floor
New York, NY 10281
ADMINISTRATOR,
FUND ACCOUNTANT &
TRANSFER AGENT
BNY Mellon Investment Servicing (US) Inc.
301 Bellevue Parkway
Wilmington, DE 19809
CUSTODIAN
The Bank of New York Mellon
101 Barclay Street, 20th Floor
New York, NY 10286
INDEPENDENT REGISTERED
PUBLIC ACCOUNTING FIRM
Deloitte & Touche LLP
111 S. Wacker Drive
Chicago, IL 60606
LEGAL COUNSEL
Chapman and Cutler LLP
111 W. Monroe Street
Chicago, IL 60603
[BLANK BACK COVER]
ITEM 2. CODE OF ETHICS.
(a) The registrant, as of the end of the period covered by this report,
has adopted a code of ethics that applies to the registrant's
principal executive officer, principal financial officer, principal
accounting officer or controller, or persons performing similar
functions, regardless of whether these individuals are employed by
the registrant or a third party.
(c) There have been no amendments, during the period covered by this
report, to a provision of the code of ethics that applies to the
registrant's principal executive officer, principal financial
officer, principal accounting officer or controller, or persons
performing similar functions, regardless of whether these
individuals are employed by the registrant or a third party, and
that relates to any element of the code of ethics description.
(d) The registrant has not granted any waivers, including an implicit
waiver, from a provision of the code of ethics that applies to the
registrant's principal executive officer, principal financial
officer, principal accounting officer or controller, or persons
performing similar functions, regardless of whether these
individuals are employed by the registrant or a third party, that
relates to one or more of the items set forth in paragraph (b) of
this item's instructions.
ITEM 3. AUDIT COMMITTEE FINANCIAL EXPERT.
As of the end of the period covered by the report, the Registrant's board of
trustees has determined that Thomas R. Kadlec and Robert F. Keith are qualified
to serve as audit committee financial experts serving on its audit committee and
that each of them is "independent," as defined by Item 3 of Form N-CSR.
ITEM 4. PRINCIPAL ACCOUNTANT FEES AND SERVICES.
(a) Audit Fees (Registrant) -- The aggregate fees billed for each of the
last two fiscal years for professional services rendered by the
principal accountant for the audit of the registrant's annual
financial statements or services that are normally provided by the
accountant in connection with statutory and regulatory filings or
engagements for those fiscal years were $65,000 for the fiscal year
ended October 31, 2013 and $65,000 for the fiscal year ended October
31, 2014.
(b) Audit-Related Fees (Registrant) -- The aggregate fees billed in each
of the last two fiscal years for assurance and related services by
the principal accountant that are reasonably related to the
performance of the audit of the registrant's financial statements
and are not reported under paragraph (a) of this Item were $0 for
the fiscal year ended October 31, 2013 and $0 for the fiscal year
ended October 31, 2014.
Audit-Related Fees (Investment Advisor) -- The aggregate fees billed in
each of the last two fiscal years for assurance and related services by
the principal accountant that are reasonably related to the performance of
the audit of the registrant's financial statements and are not reported
under paragraph (a) of this Item were $0 for the fiscal year ended October
31, 2013 and $0 for the fiscal year ended October 31, 2014.
(c) Tax Fees (Registrant) -- The aggregate fees billed in each of the
last two fiscal years for professional services rendered by the
principal accountant for tax compliance, tax advice, and tax
planning were $5,200 for the fiscal year ended October 31, 2013 and
$5,200 for the fiscal year ended October 31, 2014. These fees were
for tax return preparation.
Tax Fees (Investment Advisor) -- The aggregate fees billed in each of the
last two fiscal years for professional services rendered by the principal
accountant for tax compliance, tax advice, and tax planning were $0 for
the fiscal year ended October 31, 2013 and $0 for the fiscal year ended
October 31, 2014.
(d) All Other Fees (Registrant) -- The aggregate fees billed in each of
the last two fiscal years for products and services provided by the
principal accountant to the Registrant, other than the services
reported in paragraphs (a) through (c) of this Item were $0 for the
fiscal year ended October 31, 2013 and $0 for the fiscal year ended
October 31, 2014.
All Other Fees (Investment Adviser) The aggregate fees billed in each of
the last two fiscal years for products and services provided by the
principal accountant to the Registrant, other than the services reported
in paragraphs (a) through (c) of this Item were $0 for the fiscal year
ended October 31, 2013 and $0 for the fiscal year ended October 31, 2014.
(e)(1) Disclose the audit committee's pre-approval policies and procedures
described in paragraph (c)(7) of Rule 2-01 of Regulation S-X.
Pursuant to its charter and its Audit and Non-Audit Services Pre-Approval
Policy, the Audit Committee (the "Committee") is responsible for the
pre-approval of all audit services and permitted non-audit services (including
the fees and terms thereof) to be performed for the registrant by its
independent auditors. The Chairman of the Committee is authorized to give such
pre-approvals on behalf of the Committee up to $25,000 and report any such
pre-approval to the full Committee.
The Committee is also responsible for the pre-approval of the independent
auditor's engagements for non-audit services with the registrant's adviser (not
including a sub-adviser whose role is primarily portfolio management and is
sub-contracted or overseen by another investment adviser) and any entity
controlling, controlled by or under common control with the investment adviser
that provides ongoing services to the registrant, if the engagement relates
directly to the operations and financial reporting of the registrant, subject to
the de minimis exceptions for non-audit services described in Rule 2-01 of
Regulation S-X. If the independent auditor has provided non-audit services to
the registrant's adviser (other than any sub-adviser whose role is primarily
portfolio management and is sub-contracted with or overseen by another
investment adviser) and any entity controlling, controlled by or under common
control with the investment adviser that provides ongoing services to the
registrant that were not pre-approved pursuant to its policies, the Committee
will consider whether the provision of such non-audit services is compatible
with the auditor's independence.
(e)(2) The percentage of services described in each of paragraphs (b)
through (d) for the Registrant and the Registrant's investment
adviser of this Item that were approved by the audit committee
pursuant to the pre-approval exceptions included in paragraph
(c)(7)(i)(c) or paragraph (c)(7)(ii) of Rule 2-01 of Regulation S-X
are as follows:
(b) 0%
(c) 0%
(d) 0%
(f) The percentage of hours expended on the principal accountant's
engagement to audit the registrant's financial statements for the
most recent fiscal year that were attributed to work performed by
persons other than the principal accountant's full-time, permanent
employees was less than fifty percent.
(g) The aggregate non-audit fees billed by the registrant's accountant
for services rendered to the registrant, and rendered to the
registrant's investment adviser (not including any sub-adviser whose
role is primarily portfolio management and is subcontracted with or
overseen by another investment adviser), and any entity controlling,
controlled by, or under common control with the adviser that
provides ongoing services to the registrant for the Registrant's
fiscal year ended October 31, 2013 were $5,200 for the Registrant
and $3,000 for the Registrant's investment adviser and for the
Registrant's fiscal year ended October 31, 2014 were $5,200 for the
Registrant and $43,500 for the Registrant's investment adviser.
(h) The registrant's audit committee of the board of directors has
considered whether the provision of non-audit services that were
rendered to the registrant's investment adviser (not including any
sub-adviser whose role is primarily portfolio management and is
subcontracted with or overseen by another investment adviser), and
any entity controlling, controlled by, or under common control with
the investment adviser that provides ongoing services to the
registrant that were not pre-approved pursuant to paragraph
(c)(7)(ii) of Rule 2-01 of Regulation S-X is compatible with
maintaining the principal accountant's independence.
ITEM 5. AUDIT COMMITTEE OF LISTED REGISTRANTS.
(a) The Registrant has a separately designated audit committee consisting of
all the independent directors of the Registrant. The members of the audit
committee are: Thomas R. Kadlec, Niel B. Nielson, Richard E. Erickson and
Robert F. Keith.
ITEM 6. INVESTMENTS.
(a) Schedule of Investments in securities of unaffiliated issuers as of the
close of the reporting period is included as part of the report to
shareholders filed under Item 1 of this form.
(b) Not applicable.
ITEM 7. DISCLOSURE OF PROXY VOTING POLICIES AND PROCEDURES FOR CLOSED-END
MANAGEMENT INVESTMENT COMPANIES.
The Proxy Voting Policies are attached herewith.
ITEM 8. PORTFOLIO MANAGERS OF CLOSED-END MANAGEMENT INVESTMENT COMPANIES.
(A)(1) IDENTIFICATION OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS AND
DESCRIPTION OF ROLE OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS
Information provided as of December 24, 2014.
Brookfield Investment Management Inc. ("Brookfield") serves as the Fund's
Sub-Advisor. Brookfield is a wholly-owned subsidiary of Brookfield Asset
Management, a global alternative asset manager with approximately $200 billion
in assets under management as of September 30, 2014. Brookfield Asset Management
has over a 100-year history of owning and operating assets with a focus on
property, renewable power, infrastructure and private equity. The company offers
a range of public and private investment products and services, which leverage
its expertise and experience and provide it with a competitive advantage in the
markets where it operates. On behalf of its clients, Brookfield Asset Management
is also an active investor in the public securities markets, where its
experience extends over 30 years. Over this time, the company has successfully
developed several investment operations and built expertise in the management of
institutional portfolios, retail mutual funds and various commingled vehicles.
Brookfield Asset Management's public market activities are conducted by
Brookfield Investment Management, a registered investment advisor. These
activities complement Brookfield Asset Management's core competencies and
include global listed real estate and infrastructure equities, corporate
high-yield investments, opportunistic credit strategies and a dedicated
insurance asset management division. Headquartered in New York, NY, Brookfield
Investment Management maintains offices and investment teams in Toronto,
Chicago, Boston and London and has over $17 billion of assets under management
as of September 30, 2014.
Dana E. Erikson, CFA, Managing Director
Mr. Erikson, Portfolio Manager and the Head of the Global High Yield Team, is
responsible for the firm's corporate high yield exposures and the establishment
of portfolio objectives and strategies. Mr. Erikson has 27 years of investment
experience. Prior to joining the firm in 2006, he was with Evergreen Investments
or one of its predecessor firms since 1996. He was a senior portfolio manager
and the Head of the High Yield team. Prior to that, he was Head of High Yield
Research. Mr. Erikson received a BA in Economics from Brown University and an
MBA, with honors, from Northeastern University. Mr. Erikson holds the Chartered
Financial Analyst designation and he is a member of the Boston Security Analysts
Society.
Anthony Breaks, CFA, Director
Mr. Breaks is a Portfolio Manager on the Securitized Products Investments team
and has worked for the firm since May 2002. Mr. Breaks is a team leader in
MBS/ABS and is a member of the team's securities analysis committee. Mr. Breaks
also has managed securitized product vehicles, such as SIV, ABCP and CDOs, for
Brookfield and has experience in insurance company asset management. Mr. Breaks
earned a Bachelor of Science degree in Electrical Engineering from the
Massachusetts Institute of Technology. He holds the Chartered Financial Analyst
designation.
(A)(2) OTHER ACCOUNTS MANAGED BY PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBER
AND POTENTIAL CONFLICTS OF INTEREST
Information provided as of October 31, 2014.
# of Accounts Total Assets
Managed for which for which
Total Advisory Fee is Advisory Fee
Name of Portfolio Manager or # of Accounts Based on is Based on
Team Member Type of Accounts* Managed Total Assets Performance Performance
----------------------------- --------------------------------- ------------- ------------ ----------------- --------------
1. Dana Erikson Registered Investment Companies: 2 $414M 0 $0
Other Pooled Investment Vehicles: 0 $0 1 $0
Other Accounts: 1 $22M 0 $0
2. Anthony Breaks Registered Investment Companies: 0 $0 0 $0
Other Pooled Investment Vehicles: 0 $0 0 $0
Other Accounts: 2 $430M 0 $0
PORTFOLIO MANAGER POTENTIAL CONFLICTS OF INTERESTS
Potential conflicts of interest may arise when the portfolio managers have
day-to-day management responsibilities with respect to one or more other funds
or other accounts, as is the case for the portfolio managers of the Registrant.
These potential conflicts may include:
Allocation of Limited Time and Attention. A portfolio manager who is responsible
for managing multiple funds and/or accounts may devote unequal time and
attention to the management of those funds and/or accounts. As a result, the
portfolio manager may not be able to formulate as complete a strategy or
identify equally attractive investment opportunities for each of those accounts
as the case may be if he or she were to devote substantially more attention to
the management of a single fund. The effects of this potential conflict may be
more pronounced where funds and/or accounts overseen by a particular portfolio
manager have different investment strategies.
Allocation of Limited Investment Opportunities. If a portfolio manager
identifies a limited investment opportunity that may be suitable for multiple
funds and/or accounts, the opportunity may be allocated among these several
funds or accounts, which may limit a client's ability to take full advantage of
the investment opportunity.
Pursuit of Differing Strategies. At times, a portfolio manager may determine
that an investment opportunity may be appropriate for only some of the funds
and/or accounts for which he or she exercises investment responsibility, or may
decide that certain of the funds and/or accounts should take differing positions
with respect to a particular security. In these cases, the portfolio manager may
place separate transactions for one or more funds or accounts which may affect
the market price of the security or the execution of the transaction, or both,
to the detriment or benefit of one or more other funds and/or accounts.
Variation in Compensation. A conflict of interest may arise where the financial
or other benefits available to the portfolio manager differ among the funds
and/or accounts that he or she manages. If the structure of the investment
adviser's management fee and/or the portfolio manager's compensation differs
among funds and/or accounts (such as where certain funds or accounts pay higher
management fees or performance-based management fees), the portfolio manager
might be motivated to help certain funds and/or accounts over others. The
portfolio manager might be motivated to favor funds and/or accounts in which he
or she has an interest or in which the investment advisor and/or its affiliates
have interests. Similarly, the desire to maintain or raise assets under
management or to enhance the portfolio manager's performance record or to derive
other rewards, financial or otherwise, could influence the portfolio manager to
lend preferential treatment to those funds and/or accounts that could most
significantly benefit the portfolio manager.
Related Business Opportunities. The investment adviser or its affiliates may
provide more services (such as distribution or recordkeeping) for some types of
funds or accounts than for others. In such cases, a portfolio manager may
benefit, either directly or indirectly, by devoting disproportionate attention
to the management of fund and/or accounts that provide greater overall returns
to the investment manager and its affiliates.
Brookfield has adopted compliance policies and procedures that are designed to
address the various conflicts of interest that may arise for it and the
individuals that it employs. For example, Brookfield seeks to minimize the
effects of competing interests for the time and attention of portfolio managers
by assigning portfolio managers to manage funds and accounts that share a
similar investment style. Brookfield also has adopted trade allocation
procedures that are designed to facilitate the fair allocation of limited
investment opportunities among multiple funds and accounts.
(A)(3) COMPENSATION STRUCTURE OF PORTFOLIO MANAGERS OR MANAGEMENT TEAM MEMBERS
PORTFOLIO MANAGER COMPENSATION
Information provided as of October 31, 2014.
Brookfield compensates its portfolio managers based on the scale and complexity
of their portfolio responsibilities, the total return performance of funds and
accounts managed by the portfolio manager on an absolute basis and versus
appropriate peer groups of similar size and strategy, as well as the management
skills displayed in managing their subordinates and the teamwork displayed in
working with other members of the firm. Since the portfolio managers are
responsible for multiple funds and accounts, investment performance is evaluated
on an aggregate basis almost equally weighted among performance, management and
teamwork. Base compensation for Brookfield's portfolio managers varies in line
with a portfolio manager's seniority and position. The compensation of portfolio
managers with other job responsibilities (such as acting as an executive officer
of Brookfield or supervising various departments) includes consideration of the
scope of such responsibilities and the portfolio manager's performance in
meeting them. Brookfield seeks to compensate portfolio managers commensurate
with their responsibilities and performance, and competitive with other firms
within the investment management industry. Salaries, bonuses and stock-based
compensation also are influenced by the operating performance of Brookfield and
its parent company, Brookfield Asset Management Inc. While the salaries of
Brookfield's portfolio managers are comparatively fixed, cash bonuses and
stock-based compensation may fluctuate significantly from year to year. Bonuses
are determined on a discretionary basis by the senior executives of Brookfield
and measured by individual and team-oriented performance guidelines. The amount
of the Long Term Incentive Plan (LTIP) is approved by the board of directors
annually and there is a rolling vesting schedule to aid in retention of key
people. A key component of this program is achievement of client objectives in
order to properly align interests with our clients. Further, the incentive
compensation of all investment personnel who work on each strategy is directly
tied to the relative performance of the strategy and its clients.
The compensation structure of each Portfolio Manager and other investment
professionals has four primary components:
o A base salary;
o An annual cash bonus;
o If applicable, long-term compensation consisting of restricted stock
units or stock options of the Investment Adviser's ultimate parent
company, Brookfield Asset Management, Inc. and
o If applicable, long term compensation consisting of restricted stock
units in private funds managed by the investment professional
Each Portfolio Manager also receives certain retirement, insurance, and other
benefits that are broadly available to all employees. Compensation of each
Portfolio Manager is reviewed on an annual basis by senior management.
(A)(4) DISCLOSURE OF SECURITIES OWNERSHIP
Information provided as of October 31, 2014.
Dollar Range of Fund Shares
Name Beneficially Owned
Dana Erikson $0
Anthony Breaks $0
(B) Not applicable.
ITEM 9. PURCHASES OF EQUITY SECURITIES BY CLOSED-END MANAGEMENT INVESTMENT
COMPANY AND AFFILIATED PURCHASERS.
Not applicable.
ITEM 10. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
There have been no material changes to the procedures by which the shareholders
may recommend nominees to the registrant's board of directors, where those
changes were implemented after the registrant last provided disclosure in
response to the requirements of Item 407(c)(2)(iv) of Regulation S-K (17 CFR
229.407) (as required by Item 22(b)(15) of Schedule 14A (17 CFR 240.14a-101)),
or this Item.
ITEM 11. CONTROLS AND PROCEDURES.
(a) The registrant's principal executive and principal financial
officers, or persons performing similar functions, have concluded
that the registrant's disclosure controls and procedures (as defined
in Rule 30a-3(c) under the Investment Company Act of 1940, as
amended (the "1940 Act") (17 CFR 270.30a-3(c))) are effective, as of
a date within 90 days of the filing date of the report that includes
the disclosure required by this paragraph, based on their evaluation
of these controls and procedures required by Rule 30a-3(b) under the
1940 Act (17 CFR 270.30a-3(b)) and Rules 13a-15(b) or 15d-15(b)
under the Securities Exchange Act of 1934, as amended (17 CFR
240.13a-15(b) or 240.15d-15(b)).
(b) There were no changes in the registrant's internal control over
financial reporting (as defined in Rule 30a-3(d) under the 1940 Act
(17 CFR 270.30a-3(d)) that occurred during the registrant's second
fiscal quarter of the period covered by this report that has
materially affected, or is reasonably likely to materially affect,
the registrant's internal control over financial reporting.
ITEM 12. EXHIBITS.
(a)(1) Code of ethics, or any amendment thereto, that is the subject of
disclosure required by Item 2 is attached hereto.
(a)(2) Certifications pursuant to Rule 30a-2(a) under the 1940 Act and
Section 302 of the Sarbanes-Oxley Act of 2002 are attached hereto.
(a)(3) Not applicable.
(b) Certifications pursuant to Rule 30a-2(b) under the 1940 Act and
Section 906 of the Sarbanes- Oxley Act of 2002 are attached hereto.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, the registrant has duly caused this report to be
signed on its behalf by the undersigned, thereunto duly authorized.
(registrant) First Trust Strategic High Income Fund II
-------------------------------------------------------
By (Signature and Title)* /s/ Mark R. Bradley
----------------------------------------
Mark R. Bradley, President and
Chief Executive Officer
(principal executive officer)
Date: December 23, 2014
--------------------
Pursuant to the requirements of the Securities Exchange Act of 1934 and the
Investment Company Act of 1940, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
By (Signature and Title)* /s/ Mark R. Bradley
----------------------------------------
Mark R. Bradley, President and
Chief Executive Officer
(principal executive officer)
Date: December 23, 2014
--------------------
By (Signature and Title)* /s/ James M. Dykas
----------------------------------------
James M. Dykas, Treasurer,
Chief Financial Officer and
Chief Accounting Officer
(principal financial officer)
Date: December 23, 2014
--------------------
* Print the name and title of each signing officer under his or her signature.